AKD Quotidian about — Banks: The rerating effect

Karachi, July 16, 2013 (PPI-OT): The listed banking sector has gained 19% since the 50bps cut in DR announced on Jun 21’13.

According to AKD Securities in this regard, a valuation multiples’ re-rating appears to be underway with investors eyeing a more palatable operating environment for banks going forward (NIM expansion ahead with limited asset quality concerns).

Specifically, the Big-5 Banks P/B and PIE multiples have expanded by 25%CYTD and 42%CYTD to 1 .36x and 9.lSx, respectively, and valuation rerating can potentially continue if the market starts to attach increasingly lower risk premiums particularly if regulatory risk reduces.

Upside potential in some cases is significant – reducing CoEs by 1% would increase target prices in the AKD Banking Universe by up to 17%! While AKD Securities will formally look to revisit AKD Securities EPS estimates and target prices post 2HCYI3 results, banks that have room to outperform in case of a continued valuation rerating include NBP and ABL.

A more palatable operating outlook: The listed banking sector has gained 19% since the 50bps cut in DR announced on Jun 2113 where there are increasing signs that the operating environment will tilt in favour of banks.

In this regard, AKD Securities points to 1) likely end of monetary easing which should drive double-digit growth in CY14F, 2) possible lppt reduction in rate floor on savings deposits which will trigger +ve EPS estimates revision in the 5%-i 0% range and 3) peaking of systemic NPLs which should yield provisioning reversals going forward.

AKD Securities believes the combination of these factors is resulting in a valuation uptick for banks where this can potentially sustain.

Rerating effect: Valuation multiples re-rating appears to be underway where the Big-5 Banks P/B and PIE multiples have expanded by 25%CYTD and 42%CYTD to 1.36x and 9.13x, respectively.

AKD Securities views this as 1) a manifestation of catch-up price performance (the Big-b banks have underperformed the KSE-100 Index by 15% over the last year) and 2) recognition of improved growth prospects post a soft CY1 3F. Further rerating in banks’ valuations can occur if the market attaches increasingly lower risk premiums particularly if regulatory risk reduces (e.g. AKD Securities believes it is unlikely that the rate floor on savings a/c will be increased).

Valuation sensitivity: While AKD Securities will formally look to revisit AKD Securities EF’S estimates and target prices post 2HCY13 results, a valuation sensitivity analysis is in order. In this regard, based on a risk-free rate of 9% and 3yr betas ranging from 1 Ox-i .3x, the implicit market risk premiums AKD Securities are incorporating range from 5.5%-7.4%.

Reducing GoEs by 1% for the sake of a sensitivity analysis would increase target prices in the AKD Banking Universe by 4%- 17%. TP sensitivity incorporating a uniform 6% MRP is also shown in the table below.

Valuation Sensitivity

 PkR      Base-case      Sensitivity Analysis
 Bank       TP      CoE     TP@COE-1%   TP@6%MRP

 MCB       225.0   15.75%     234.9     207.8
 UBL       120.0    1625%     137.5     115.8
 BAFL       20.0   17.00%      22.1      22.8
 NBP        51.0    1725%      55.1      58.7
 ABL        81.0   16.50%      93.1      89.3
 HBL       130.0    1650%     152.3     164.6

CoE = Rf + Beta x Market Risk Premium (MRP) Source; AKO Research

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