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India Now Second Most Preferred Banking Market For Morgan Stanley. Here’s Why.

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India became the second most preferred banking market for Morgan Stanley, after it added ICICI Bank Ltd. into its Asia Banks Model Portfolio. It assigned the country’s largest private sector lender a weightage of 7.5 percent, which is the highest weight it has given to any of the Indian banks in its portfolio so far.

The inclusion of ICICI Bank comes on the back of removing Indonesian Bank BCA (PT Bank Central Asia) and Philippines Bank BDO (Banco De Oro Unibank).

The brokerage notes that large corporate lenders will go through balance sheet cleanup and return on equity normalisation over the next four quarters, which will drive stock performance of Indian banks.

ICICI Bank offers the best risk-reward across large-cap Asian banks in the near term, its impaired loans are coming off faster than those of State Bank of India and Axis Bank Ltd., which should quicken normalisation, Morgan Stanley said.

"The stock is trading at attractive multiples — 1.3 times its next financial year estimates core adjusted book and 12 times its next financial year estimates’ core earnings — with a significant return on equity uplift in a few quarters. Ownership is also lower than recent history, implying a potential for catch-up." - Morgan Stanley Report

In the same note, the weight of Axis Bank has been cut to 4 percent from the earlier 5 percent, while that of SBI weight has been cut to 3.5 percent from 5 percent. HDFC Bank Ltd. and IndusInd Bank Ltd. weights have been maintained at 5 percent, while ICICI Bank debuts with a 7.5 percent weight.

Morgan Stanley is bullish on Asian Banks and maintains the view for 2018. The overweight countries in the portfolio include China, India, Hong Kong and Korea. With the addition of ICICI Bank, India’s weightage increases to 25 percent from the earlier 20 percent. Also, India now overtakes Hong Kong to be the second most preferred banking market in the Asian portfolio.

The research notes state that the Indian banking stocks have been dogged by the non-performing loans and profitability concerns for multiple years but should now do well in 2018.

This will mainly be led by balance sheet cleanup and return on equity normalisation over the next four quarters. The turnaround may happen quicker if IFRS 9 (International Financial Reporting Standard) is implemented in India in April 2018, as currently planned, which will force a one-time provisioning on the entire stock of bad loans.

The move of IFRS 9 will ensure that subsequent provisioning will decline which will aid return on equity going ahead. The move, on the other hand, will impact book value of the banks.

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