Liquidity condition improves. Higher deposit growth (6.3% YTD June) compared to credit growth (5.4% YTD June) has improved banking sector liquidity. Deposit growth accelerated in Q2 (5.2% QoQ) compared to Q1 (1.1% QoQ). As a result, interest rate has started to decline. However, we are yet to see a noticeable decline in the interest rate due to the substantial increase in government borrowings. We expect the continuation of this money flow in the banking system followed by reform in NSC investment.
The government has made Tax Identification Number (TIN) mandatory for National Savings Certificates (NSC) investment. We believe many NSC investors either do not have TIN or do not want to have TIN. Only around 4mn people have TIN in Bangladesh. Besides, people used to breach the regulatory limit of NSC investment in the absence of a central database. Since the government has introduced a central database from July 2019, the central bank is now able to control this breach of limit. We have seen thsi reflected in July 2019 numbers as the net sales of national savings certificates fell by 57.1% to BDT 28.8bn, from BDT 50.3bn of July 2018.
Currency risk declines amid improvement in Current Account (C/A) deficit. Decent growth in remittance (9.6% YoY) and export (10.6% YoY) along with low import growth (1.8% YoY) have improved C/A deficit to USD 5.3bn (1.7% of GDP) in FY2019 compared to USD 9.8bn (3.6% of GDP) of FY2018. We expect deficit will decline further in 2020 and we will move to C/A surplus in 2021 where we naturally belong.
Our favourite banks have no exposure to PLFSL and zero to low exposure to Red Zone NBFIs. Ministry of Finance has recently approved the liquidation of a weak financial institution, PLFSL, first ever in Bangladesh’s history. This has flipside impacts. While the liquidation is negative for the FIs with high exposure to weak NBFIs, it is highly positive for better-managed FIs. We believe depositors will start differentiating between well-run FIs and weak FIs, hence will transfer their deposits to well-run FIs. Our favourite Banks (BRAC, CITY, EBL, and DUTCH) are likely to be the beneficiaries of this transition. Reviewing their exposure to NBFIs, it is seen that as of December 2018, our four favourite banks had no exposure to PLFSL and had zero to low exposure to Red Zone NBFIs (as per definition of Central Bank revealed in the stress test). While our top pick, BRAC, had no exposure to Red Zone NBFIs as of December 2018, City had exposure of BDT 1400mn, DUTCH BDT 1579mn and EBL BDT 1571mn. The body of the report and appendix contain more detail on the exposure of the banks..
NPAT in H1 2019 grew by 23.6% YoY (listed banks) and 12.7% YoY (coverage banks). NPAT grew mainly from higher interest income. Unlike the previous year, most of the banks’ spread increased in this year since the banks managed to pass through its higher funding cost. In addition, we have seen that few banks have reported higher net profit growth by taking advantage of new relaxed classification rules. It is worthy to mention that BRAC is the only bank in our coverage that hasn’t taken advantage of this relaxed provisioning.
Our cautious stance in the overall sector continues, top pick BRAC. Despite being one of the fastest-growing economies (8.0%+ GDP growth), we remain cautious on the overall sector due to higher NPL and lower provision coverage. We reiterate our Buy rating for BRAC (42.4% ETR), Buy for CITYBA (56.2% ETR), Sell on ISLAMI (-10.7% ETR), Hold for PRIME (11.8% ETR) and Hold for UCB (Trim TP to BDT15.0, 0.7% ETR). We upgrade EBL to Buy (ETR 17.3%) with an unchanged TP of BDT 39.4.
Among these names, BRAC continues to be our top pick because BRAC benefits from high-quality corporate governance & management, and a strong balance sheet (clean asset book, stable funding, and capital headroom). The valuation of 1.7x 2019f PB for the consolidated entity implies a c1.0x PB for the standalone bank (ie stripping out bKash at our valuation of US$942mn - which may prove conservative depending on how bKash’s P2B retail payments bid pays off).
Downside to our valuation. Systematic risk arose from high NPL and weak capitalization remains our key risk for the Bangladesh banking sector. Besides, inconsistent policy is negatively impacting the banking sector.