BANKING STOCKS RIDING BOURSES LIKE WILD HORSES

After the March crash banks have been quick to recover to their pre-crash prices

By HARIZ ZAMIR
 Oct 31 - Nov 13, 2005

The banking stocks are riding the bourses like wild horses just as the market began to recover from its 'March Crash'. Banking scrips almost recovered twice as much as the other scrips.

During the last six months, and after the March crash banks have been quick to recover to their pre-crash prices. This was due to their strong fundamentals and the proof, through their 1H2005 results, that there is actually growth in earnings, not just a case of higher multiples being applied to stagnant earnings. The banking sector market capitalization has increased by 34 percent from where it was on March 15, 2005, compared to a 15% decline in the KSE-100 index.

Another way to look at the banking sector's performance would be to analyze its earning growth in the first half of 2005 and return on equity that the banks have provided during the period. Listed banks showed profitability growth of 93% during first half of 2005 compared with the same period a year ago.

The contribution of Net Domestic Assets (NDA) in the total money supply was showing an increasing trend as a result of the money multiplier coming into play. According to June-end figures released by the State Bank recently, one can see that the NDA of the banking sector have grown by Rs 322 billion in 1H2005 (Jan-June 2005), whereas Net Foreign Assets (NFA) have actually declined by Rs 15 billion. Hence, once again we see that the deposit growth in first half of 2005 has fully been supported by NDA.

Talking more about monetary aggregates, the FY05 monetary growth just reported by the State Bank comes up to 19.27 percent as against 19.62 percent in FY04.

Faisal Jiwani, banking analyst at Investcapital Securities said that the slightly lower percentage increase is just due to a larger base effect, although in absolute terms the growth is much higher: Rs 479 billion in FY05 vs. Rs408 billion in FY04. Interesting is the fact that around 90 percent of the growth in monetary aggregates was due to private sector credit off-take. The FY06 credit plan definitely spells tightening when it shows a total monetary expansion of Rs 380 billion.

Regarding spreads of the banking sector, Muhammad Imran, banking analyst from Jahangir Siddiqui Capital Ltd., said that according to recently released information the spread of scheduled banks (difference between lending and deposit rates) remained at 7.01% in July and 6.84% in August. During 1H2005 the average spread of banks was 5.47 percent. This upward journey of spreads actually started at the beginning of 2005. But the quantum jump was seen in July and August and we expect it would be close to 7% in September also. The upward rise in the spread coupled with normal growth in advances will impact positively on the earnings of the bank. Moreover, if we see the return on investments than the 6-month T-bill average yield was 6.40% during 1H2005 which remained 8.01% in 3Q2005. Thus the yield on interest bearing assets during 3Q2005 will be far higher than 1H2005.

The core profits in the third quarter from banking operations would improve by 20% as compared to 2Q2005. And that is why investors and speculators are punting on banking stocks as results of the banking scrips have started pouring in which are in the line of analysts' expectation.

Moreover, the central bank aimed to support the stock market and banking hopes that financial sector to grow going forward through a circular increased exposure of commercial banks from 20 percent to their equity (capital) base to 30 percent. In addition, banks have been allowed to invest up to a maximum of 20 percent in ready market, and 10 percent in the future market.

Thus, the financial muscle of banks to buy equity exposure has gone up substantially. Farrukh Khan, research analyst at Alfalah Securities said that banks may take up aggressive positions in the future market given the separate 10% of their equity that can now solely be invested in futures.

Bank Treasuries can take additional positions in both ready and future markets, both for investing and hedging purposes. Total equity of the scheduled banks as of June 30th was Rs 221 billion. "Ten percent of this would mean an additional Rs 21 billion could potentially enter the stock market," he said.

This is 84 percent of the CFS limit set at Rs 25 billion and should help the buying euphoria to continue in the market when dust settles down and bearish spell is over.

Following of the banks are picked randomly and we are discussing their financial results.

FAYSAL BANK: THE DIVIDEND PAYING BANK

Faysal Bank has been distinguished for several reasons in the past. Firstly, for its exposure in the equity markets, secondly for its dividend paying nature, and finally for a high returning equity, which is directly related to the second reason.

Faysal Bank posted a profit after tax of Rs 1.91 billion (EPS: Rs5.2) in first half of 2005, compared to Rs 1.14 billion in 1H2004, showing a growth of 68 percent. Reasons for this growth in profitability included a growth in Net Interest Income (NII), which grew by 108 percent and a higher dividend from NIT this year.

Reverse provisioning of Rs 146 million in the first two quarters combined with high capital gains in 1Q2005 also contributed to growth in profits. NIM of the bank in first half of 2005 amounted to 4.0 percent and annualized return on equity during first half of 2005 remained 35.8 percent. Analyst expects the bank to earn Rs 2.6 billion for 2005 and grow its profits at a CAGR of 17 percent in the next four years (2006-2009).

As Faysal Bank is a high dividend paying bank, analysts have assumed a dividend payout ratio of 50 percent in 2005 which amounts to Rs 3.5 per share and have increased it gradually to 80 percent after 2009 giving us a fair value of Rs 65-70 per share.

MCB BANK: SURPRISE GROWTH STORY

The growth was subdued under the balance sheet restructuring in 2004, as the bank got rid of its low yielding investments during 2004 and employed its funds in better avenues, which eventually reaped magnificent results. The bank later got a chance to employ its funds in short term securities at rates higher than those which other banks got on their long term securities. MCB Bank, with a changed name and changed stance, posted profitability in first half of 2005, which was higher than full year 2004 profits.

MCB Bank posted a profit after tax of Rs 3.0 billion in first half of 2005 compared to Rs 1.29 billion in 1H2004 showing a growth of 136 percent. Interestingly, the growth was in core earnings where NII grew by 74 percent and can be termed as recurring. ADR of the bank also improved from 62 percent in December 2004 to 65 percent in June 2005.

NIM for first half of 2005 amounted to 5.1%. Faisal Jiwani expects the bank's profitability to grow at a 4-year CAGR of 16 percent. "MCB's payout ratio has been better than other banks in the past and going forward we assume that to continue. Hence, we have taken a 25 percent dividend payout in 2005, increasing it gradually to 65 percent after 2009, keeping the rest to be reemployed for growth."

NATIONAL BANK: SLUMBERING GIANT

As with all the banks, National Bank also surpassed our earning expectations, but not to a great extent, Jiwani said.

As against our 1H2005 EPS expectations of Rs 7.25-7.35, the bank announced an EPS of Rs7.44. The increase was mainly in the Net Interest Income, which grew to Rs 9.8 billion vs our forecast of Rs 9.1 billion. Hence, we have revised our full year profit after tax forecast to Rs 10.7-10.9 billion (EPS: Rs18.1-18.5).

The bank's ADR increased from 47.6 percent in December 2004 to 51.1 percent in 1H2005. Although, we do not expect NBP to increase this ratio by a great extent, NIM during 1H2005 for NBP amounted to 5.0 percent.

Earnings of the bank are expected to grow at a CAGR of 13 percent for the next four years (2006-2009).

Being a 'national' bank it pays out very minimal dividends, and we expect it to do so in the future as well. Looking at our neighbouring banks, we see that the State Bank of India (which is not the central bank) paid out 16 percent of its earnings last year. The low payout ratio will keep the bank's return on equity low and hence the terminal growth rate will be slightly lower than the smaller, aggressive banks, with a higher payout ratio.