Secular growth stocks with 5+ year horizon suitable for 10%+ of PF

Really very good question like always. Actually I don't see it as lack of conviction of management. Sometimes it happens that one is forced to backtrack. One should be firm in strategy and pragmatic in tactics. In my opinion this is tactical issue, strategic issue is business model i.e. secured retail loans with good margins. Strategy is intact. They did not expect market to react like this. In old plan, it was inherent that cost to income ratio would increase suddenly and ROE would go down below cost of capital i.e.7.5%. Also bank needed capital from market to sustain the operations. Benefit was only to grab the lucrative cities before other new banks grabbed it. But the market did not get it right. Market logic was very simple. Market was expecting the profits to grow 25-30% per annum for very long period. This way profits were to double in three years. But in this case profits were to stall for three years and even bank needed capital to sustain. Market punished the stock. Obviously management had to change the tactics as they realized the mistake. I see it a good sign as they don't need capital now from market and still they can increase assets at the rate of 25% per annum. No doubt profits will not grow at this rate.

For second question you are right they can not grow without expanding branch network. Their business model needs more branches to grow in retail. In wholesale banking they can grow with less branches, in retail ... nope. So this problem is not only with DCB, other new banks will also need branches to expand. Competition will increase. New banks will give competition but they need time to set the processes first. Old banks entering the retail will need branches. We are going to see a lot of branch openings in India.

So the business model of DCB is going to see high competition. Still I like DCB because loan business is like commodity business, 'me too' business. One who offers cheap loan and keep cost to income low will survive. DCB has proved it in last 5 years. It is not difficult for any bank to grow assets, lot of people are ready to take loan. Important thing is credit appraisal system so that loan will come back. DCB has proved here also as 45 % of loans are mortgage backed. I have already written I don't like bank business but I like the price at which bank is available. For three years this bank is not going to show profits growth, but I am getting share at half price so it compensates this time value of money. FY 19 onward as the cost to income will go down, bank will show good growth in profits. So I am not in hurry to double my money. This share is not for this purpose. But it is certainly a long time winner and I need these type of opportunities as I don't want to trade in short term. There are lot of opportunities in market which can multiply money in next five ten years but you can not allocate heavily to to get the benefits. Here I can allocate heavily to get benefits as downward chances are nil.

 

DCB business model is a mix of Gruh, Repco( home loan), Capital First(small business loan), Cholamandalam( Vehicle finance) etc. It works where NBFCs work. It does not credit to large corporates as there is risk but easy to lend and easy to pursue and easy to keep cost to income low, easy to spin money with less branches.
Size - Here I am talking of established, proven credit appraisal system, processes etc which are ready to compete with big banks.
There is high risk brewing in banking industry. Most of the banks, even private ones are not showing real picture. These banks are giving more loans to company to back the interest. This way they are not showing loss. Alternately this payback of interest is shown as profit and balance sheet is adjusted with issue of fresh capital. RBI has asked all banks to clear this issue. That's why all bank stocks are very cheap. DCB is free from this all 'Kachra'. No bank, no NBFC is available at this rate.

 

Rajesh,

Appreciate your response.

Even you concur that the management is right in looking at lucrative markets where the bank has no presence and a delay will only lead to competition gaining a foothold. Raising capital isn't a problem for banks, at least the sound ones. PSBs are a different case. Like somebody calls EIL a poor son without realising that the parent mints money. And if DCB has a robust business model, like you say, it shouldn't face problems raising capital for growth. Equity isn't the only way and they have access to bonds like any other bank in India.

On the business front, mortgage backed isn't an assurance of guaranteed repayment, isn't it? The default risk lies with the borrower. And I guess we all know how banks sell distressed assets. Doesn't the bank run a concentration risk with 45% of its assets in retail and therefore, credit risk too? During 2008 crisis - MBS & CDO, the banks faced a crisis because the underlying asset - realty - housing bubble.

NBFCs with gold loan business had to undergo a lot of change after the fall in price of gold. They still had the gold but it wasn't sufficient to cover the outstanding loan and interest. The loan to value was as high as 90% and RBI intervened and the rest is there for all of us to see. Similarly, for the exposure of banks to micro-finance institutions during Andhra Pradesh micro-finance crisis.

You know it better than I do because I've not even looked at the numbers for DCB. Does it have any different appraisal system from say an HDFC Bank? Or are they more adventurous and undertake exposure to clients that an HDFC Bank or an ICICI Bank wouldn't touch?

Do you think that in all honesty if the banks were to give a true picture of the NPAs, it'd probably be a run on the bank scenario? Do you still have money in the bank or have cashed it all?

Also with the point that DCB is at half price - is it with reference to P/BV? And a lot of opportunities available in the market but not offer comfort like DCB? I mean, come on there's certainly better banks to look at if I were buying banks now, which I am not. No downward chances - another bad quarter and some disclosure and look at the downgrades.

Wish you luck with DCB!

 

My question was what is their 'differentiating business model' ie their USP. Surely following the Gruh or Repco for home loans, capital first ( for business loans) etc seems more like a copycat than their USP and neither can transacting with a particular community.

 

DCB cost of capital is 7.5% is it? Interested in knowing the source of this information.

 

First of all you must understand that in investing world no one is right and no one is wrong. Anyone is free to change his opinion anytime, and it happens most of the time with investors. Difference of opinions make markets. So control your emotions and don't ridicule. Counter arguments are most welcome but with decency and with full respect. Don't forget you are in public forum so no need to let down others. Now let me come to the point.

Who does say this ? Read carefully, I am saying ROE was going to drop to 7.5% which was below cost of capital. No where I mentioned the cost of capital. Cost of capital is always the prevailing bond rates in a country. ROE must be more than cost of capital, only then company can create value to shareholders. If a company is earning less than cost of capital, who will give money to this company ?
Search 'Investopedia' and understand it. You should search or ask if you don't know instead of making fun of me.

 

Can you explain the USP of India's top ranking well managed banks like HDFC, Kotak or anyother bank ?

I have already explained my point what to see in bank before investing. And that is very simple to understand like cost to income ratio, asset quality, granular assets. I also explained how investing is commodity business, 'Me too' business.

 

Bank can not raise money through bonds to maintain CAR with growing assets. It has to raise equity as it needs Tier 1 capital.
Depreciating collateral like mortgages, gold is different issue. These points go against all banks not against DCB. These are the reasons people don't like banks. If you have exposure in bank, keep a watch on these developments and exit if you see the danger. We have to be smart in investing world.
DCB at half price - This was selling at Rs 140 and every broker house was gung-ho about it. Every body was looking and hopeful for 25-30% CAGR in profits and assets. All of sudden bank changed the tactics and people realized that bank is not going to show profits growth for 2-3 years, they dumped the stock and stock is available at half price i.e. Rs 70. I think this is an opportunity because even if bank does not grow for 2-3 years, no problem as we get it at half price i.e. Rs 70. So the time value of money or you can say the opportunity cost is already inherent in the price.
Well managed banks in India are very costly and may not give good returns in future. Kotak has Rs 1 lakh crore in assets and Rs 1 lakh 20000 crore in market capitalization more than ICICI which has Rs 6 lakh crore assets. DCB is an emerging well managed bank. The smallest too in India, also at very reasonable price i.e. 2000 cr market cap with 16000 cr assets. No doubt, still far away to fire with all cylinders. No chance for price appreciation in haste.

 

My bad, I thought perpetual bonds count towards Tier I capital & are treated as equity.

The mortgage example was cited because 45% mortgage backed loans is used as a selling point.

The half price argument, I'll leave it at whatever you've said.

Considering that you don't like banking but invest only in DCB, speaks a lot about it.

DCB for me is just another community bank.

Thanks for the engaging discussion.

 

I think whole banking space is avoid till clarity is there of NPA after RBI clean up action: \\

I wanted your view on the banking sector, in particular some of the private sector lenders whose balance sheets look a little better than public sector lenders. There is a double whammy with the global banking stocks now going through a bad patch. We understand that S&P Bankex is at the same level it was in 1996, so, over a 20 year period people have been robbed off their gains. Likewise in India there is a cleaning spree, should you buy this distress?

A: You correctly used the word look a little better. Now, are they better that is the question I ask myself whenever I look at the sector in my office and I actually get down to look at an State Bank of India (SBI) , ICICI Bank or a Yes Bank or a Kotak Mahindra Bank balance sheet. It worries me that can I really trust some of the numbers, provisioning and those kind of things that are there amongst the various banks that I mentioned with no specific kind of casting and aspiration on any bank as such. So, therefore, I come back to the same conclusion that I need to look at the ones which will survive this onslaught, I need to look at the ones which would be recapitalsed, would be the bigger players always in the Indian context. So, therefore I would like to remain invested in them or keep adding them. How do I game them, when do I enter, when they are 10 percent lower, when they are 5 percent higher? It is difficult to game so in a bad day when the bank index is really getting hammered, I make that incremental small position and sit quietly; that is the only strategy I can follow and hope for the best.

Read more at: https://www.moneycontrol.com/news/m...t-traders_5375041.html?utm_source=ref_article

 

Ok. So I take it that at DCB too its the usual run of the mill business model - doing what the rest do but competing with some others who do it better and are in an advantaged position already.

 

No need to sound aggrieved due to a couple of simple questions. Thought you might know a lot more about DCB. Also with your strong belief in DCB I thought you might help end my struggle in understanding the strange price behaviour.

so you actually meant .. ROE was going to drop to 7.5% which was below cost of capital. My poor knowledge of English got me to interpret it as being RoE below cost of capital that is 7.5%. Thanks for the clarification.

 

Thank you for this advice too. started with this nice post on WACC in here only : am thankful to member who tried to explain with an example too. I think even you liked the explanation. Will visit investopidia too if required or ask in here.

https://rakesh-jhunjhunwala.in/foru...e-intellectuals-cash-flow-analysis.980/page-2

 

Tier 1 : capital consists mainly of share capital and disclosed reserves

Tier II capital, on the other hand, consists of certain reserves and certain types of subordinated debt

Elements of Tier I Capital: The elements of Tier I capital include: (i) Paid-up capital (ordinary shares), statutory reserves, and other disclosed free reserves, if any; (ii) Perpetual Non-cumulative Preference Shares (PNCPS) eligible for inclusion as Tier I capital - subject to laws in force from time to time; (iii) Innovative Perpetual Debt Instruments (IPDI) eligible for inclusion as Tier I capital; and (iv) Capital reserves representing surplus arising out of sale proceeds of assets

Elements of Tier II Capital

The elements of Tier II capital include undisclosed reserves, revaluation reserves, general provisions and loss reserves, hybrid capital instruments, subordinated debt and investment reserve account.

Tier II elements should be limited to a maximum of 100 per cent of total Tier I elements

 

@bb

I missed one part above

Innovative instruments shall not exceed 15 per cent of total Tier I capital. Innovative instruments in excess of the above limits shall be eligible for inclusion under Tier II, subject to limits prescribed for Tier II capital

E & OE...

Also there was another part to your question : such perpetual debt instruments being treated as Equity. From an accounting and balancesheet perspective : these need to be shown as Borrowings and not Share Capital and Reserves.

 

Good knowledge of banking law and discussion. So much to learn about banks

 

I bought so many banks without knowing all this. So which is best bank buy (other than HDFC Bank)? I think IndusInd is good bank. I sold HDFC Bank to buy other stocks - Big mistake.

 

@darth

thank you, good Sir

does that mean - perpetual bonds will be considered towards - Tier I (AT - I) to be precise?

and given the robust business model of DCB, it shouldn't be a problem to access capital, right?

do the poor PSBs get the benefit of a parent that mints money?

 

I haven't touch anything besides HDFC Bank, Indusind, Kotak... Taken small exposure in Yes at the last fall.

 

IPDI's can be issued as bonds or debentures. Requires RBI approvals though after BoD approve.

Even State and Central CoOp banks can issue IPID's I think.

Now I hope I dont have to remind you what this forum is for... Certainly not a Banker's forum

So no more of this banking stuff. Time for me to move on.... All may refer to the 106 page circular to satisfy their hunger to learn more about Capital Adequacy at Banks.