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Stock pick of the week: Why analysts are bullish on Federal Bank

As per consensus estimate, Federal Bank is expected to report a net profit of 24% in 2020-21. Significant cut in its share price in recent past and the resultant fall in valuation is another reason. This has made the company a favourite of analysts.

, ET Bureau|
Oct 28, 2019, 06.30 AM IST
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Federal Bank’s watch list has three large corporate exposures to the tune of Rs 470 crore.
The market players were upset with the second quarter results of Federal Bank despite an increase in net profit of 56% y-o-y and 8% q-o-q. This is because the increased slippage and loan write off during the quarter have nullified the benefits of the recently announced corporate tax rate cut. Due to increase in credit cost, its Net Interest Margin (NIM) also fell to 3.01% from 3.15% in the previous quarter.

Market players were also upset with the q-o-q increase in slippages to Rs 540 crore from Rs 420 crore, triggered by the Rs 180 crore exposure to one corporate from ADAG Group. However, this jump is not critical since it came from the pre-identified pool and Federal Bank had already made adequate provisions for this event.

Analysts are also happy that there was no addition to Federal Bank’s watchlist during the last quarter, despite the ongoing macro-economic slowdown and spate of downgrades by rating agencies. However, Federal Bank’s watch list has three large corporate exposures (DHFL, RHFL and IL&FS) to the tune of Rs 470 crore. Since the coverage on exposure is only 15%, Federal Bank will be forced to make higher provisions (when they become NPAs) in the coming quarters. However, normalcy is expected to return soon and as per consensus estimate, Federal Bank is expected to report a net profit of 24% in 2020-21.

Analysts’ views
Buy 32
Hold 2
Sell 1

Since the bank is still fighting slippages in its corporate books, the management has taken a cautious stand on its new loans and this explains why the loan growth during the quarter from corporate and SME segments was restricted to 9% and 12% respectively. Corporate and SME segments constitute around 41% and 19% of its loan book. On the other hand, the loan growth from the retail segment, which constitutes around 30% of the loan book, continues to be healthy and was placed at 25% y-o-y.

Significant cut in its share price in the recent past and the resultant fall in valuation is another reason why analysts are getting attracted to this counter now. For example, Federal Bank fell by 21% during the last four months, compared to a flat Sensex and just 4% fall in ET Banks Index. As of now, Federal Bank is valued much lower than the other private sector banks on most valuation parameters (see relative performance table for details). Since its return ratios are expected to improve from 2020-21, stock valuation multiples of Federal Bank should also improve then.

Federal Bank compared with ET Banks and Sensex. Stock price and index values normalised to a base of 100. Source: ETIG and Bloomberg.

Selection Methodology
We pick up the stock that has shown maximum increase in “consensus analyst rating” in the past month. Consensus rating is arrived at by averaging all analyst recommendations after attributing weights to each of them (5 for strong buy, 4 for buy, 3 for hold, 2 for sell and 1 for strong sell) and any improvement in consensus analyst rating indicates that the analysts are getting more bullish on the stock. To make sure that we pick only companies with decent analyst coverage, this search will be restricted to stocks with at least 10 analysts covering it. You can see similar consensus analyst rating changes during the last one week in ETW 50 table.

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