India’s Large Private Banks Underperform Global Peers in Shareholder Returns

India’s large private banks, HDFC Bank, Kotak Mahindra Bank, and Axis Bank, have underperformed their global peers in terms of shareholder returns since the pre-pandemic period. Despite strong loan growth, these banks have failed to sustain their return on equity (RoE), leading to a valuation problem.

Valuation Problem or Fundamental Issue?

Among the banks compared, only the Indian lenders have seen valuation multiples contract. HDFC Bank’s and Kotak Mahindra Bank’s valuation multiples have halved, while Axis Bank’s have fallen by 25 per cent. This underscores the importance of entry multiples even if the underlying business continues to perform well.

What Drives Valuation Multiples?

Valuation multiples are influenced by factors such as growth rates, RoE, and entry multiples. In the case of HDFC Bank, Kotak Mahindra Bank, and Axis Bank, their high entry multiples have made them vulnerable to valuation corrections. In contrast, global banks have benefited from low entry valuations, combined with improving RoE, leading to superior stock returns.

Global Banks’ Superior Performance

• JPMorgan Chase, Barclays, Deutsche Bank, UBS Group, and MUFG have all reported stronger growth in loans, earnings, and book value, leading to higher RoE.
• The two Japanese banks and Deutsche Bank top the return rankings, benefiting from both the lowest starting valuations and the sharpest rerating.
• Santander’s loan growth remained muted, but its earnings CAGR rose from about 2 per cent in CY16-19 to 14 per cent in CY19-25.
• BNP Paribas’ earnings CAGR improved from 2 per cent to 7 per cent.

Key Takeaways

• India’s large private banks have underperformed their global peers in terms of shareholder returns since the pre-pandemic period.
• Valuation multiples are influenced by factors such as growth rates, RoE, and entry multiples.
• Global banks have benefited from low entry valuations, combined with improving RoE, leading to superior stock returns.

FAQs

What is the significance of entry multiples in bank valuations?

Entry multiples are crucial in determining a bank’s valuation. A high entry multiple can make a bank vulnerable to valuation corrections, while a low entry multiple can provide a buffer against valuation declines.

How have HDFC Bank, Kotak Mahindra Bank, and Axis Bank performed since the pre-pandemic period?

HDFC Bank’s earnings have grown at a CAGR of 19 per cent in FY20-26, while Kotak Mahindra Bank’s earnings growth rate has fallen from 20 per cent to 14 per cent. Axis Bank’s profits have improved to a CAGR of 56 per cent in FY20-26 from -22 per cent in FY17-20.

What is the current FII holding in HDFC, ICICI, Axis, and Kotak?

FII holding in HDFC, ICICI, Axis, and Kotak have come off peaks (since December 2019) of 52, 38, 53, and 45 per cent to 42, 35, 43, and 25 per cent now.

Conclusion

The market has rewarded shareholders of global banks with multiple expansion, whose fundamentals have changed for the better, irrespective of the scale of the improvement, when bought at beaten-down valuations. Conversely, when bought at higher entry multiples, even if the fundamentals remained status quo, a miss of a few percentage points in RoE, has left investors with not-so-desirable returns. Given that valuation froth has been flushed out, it should be interesting to watch the trajectory of HDFC Bank, Kotak Mahindra Bank, and Axis Bank’s stocks going forward.