>STATE BANK OF INDIA (IIFL)

The Banker to Every Indian

SBI’s focus on rapid network expansion and gaining market share has yielded results over the past two years. With 100% of its expansive branch network now linked to a common technology platform, a major constraint vis-à-vis new generation private banks is removed. The declining trend in ROE was arrested last year but the bank still lags other major government banks in this respect. Asset quality deteriorated last year and provisioning will likely remain high in the coming years. The six associate banks are in good shape and a consolidation would add value to the SBI Group. Despite the recent run-up in the stock price, valuations remain inexpensive at 1.2x core book. ADD.

Rapid network expansion: SBI is in an expansion mode, having expanded it’s domestic branch network by over 1,200 branches during FY09 (461 branches were added on account of merger of State Bank of Saurashtra), compared to the addition of 1,200 branches in the previous nine years (FY99-FY08). SBI Group (SBI & six associate banks) have combined branch network of 16,055 branches and more than 11,300 ATMs. This rapid expansion seems to be driven by a strategy to increase market share of deposits and garner more low-cost funds. SBI has also achieved 100% computerisation of all its branches, which should help improve customer service and MIS. The bank recruited 33,703 employees during FY09, most of which were clerical, which seems excessive despite the branch expansion and considering the bank’s already low assets/employee ratio.

RoE on a declining trend: SBI’s RoE declined from 19.7% in FY04 to 17.1% in FY09, primarily owing to decline in leverage (assets/equity) from 21x in FY04 to 16x in FY09. Moreover, the bank’s ROE is lower compared to other major government banks because of SBI’s lower NIM and higher operating costs, as demonstrated by the ROA tree analysis.

Associates Banks are in good health: All the six associate banks are in good health with stable RoE, low level of net NPLs and adequate Tier-1 ratio. Associate banks contributed to 24% of consolidated assets and 23% of consolidated profits. State Bank of Saurashtra was merged with SBI in August 2008. We believe the merger of the other six associate banks with the parent is desirable and would make the SBI Group stronger. Among the other major subsidiaries, SBI Cards and SBI Life Insurance reported losses for FY09.

To see full report: SBI

>THE GOLD REPORT (IIFL)

“It gets dug out in Africa or some place. Then we melt it down, dig another hole, bury it again and pay people to stand around guarding it. It has no utility. Anyone watching from
Mars would be scratching their head.”

~ Warren Buffett

No other object is like gold—perfectly useless yet universally treasured for millenniums. A controversy in itself, gold has always been an amazing magnet for contentious debates and opposing views. The abolishment of the gold standard stripped gold of its official monetary role, but inadvertently made it the unoffi cial “money of last resort”. Gold thrives on fears and suspicions of government’s fi at power, reasons for the heightened interest of late in the precious metal. This report delineates the perils and promises of investing in gold and presents a fundamental mechanism (with future scenarios) of gold price movement in this truly interesting time of ours.

The perils of investing in gold
The great peril would be mistaking gold for what it is not: an investment asset, an inflation hedge or a “safe haven”. Gold carries no economic returns and has underperformed equities for most of the time since it has had a price; in the short to mid term, gold price does not even move in tandem direction with consumer prices; and it only becomes a “safe heaven” when (the purchasing power of) money is in jeopardy.

The promises of gold
Yet gold is the market’s best and only credible alternative should fiat currency fail. For a rational investor, gold resembles a market priced, public-traded and non-expiring insurance against the extreme event of hyperinflation. Gold speculators, on the other hand, can trade on and profit from changes in outlook of inflation risks and market sentiment. Gold’s diversification benefits also emerge during times of crisis: a 4-8% allocation of gold might be suitable for a mid-risk portfolio.

Gold from now on
That would hinge on the outcome of the US recovery efforts and the ability and will of the Federal Reserve to mop up excess money supply to keep inflation at bay. Here we present four (in fact, five) scenarios: gold would sink to US$500/oz or lower in case of a Japanese-style deflation or if the Fed achieves recovery while pre-empting inflation with surgical precision; on the other hand, gold would shoot up towards US$2,000/oz if inflation reaches doubledigit levels as the Fed hesitates between choosing to kill inflation or a nascent recovery. A black-swan scenario, however, would be one in which gold bugs have their dream come infl ation and a total meltdown of flat currency.

Following topics are discussed in this report:

• The nature of gold and gold price
• Gold: demand and supply
• Myths, rhetoric and facts
• Gold-plated countries
• Histories
• The Gold Rush
• Gold equities: leveraged gold play
• India and gold: A history of fascination
• IIFL Gold Survey
• Silver: Gold’s often forgotten cheaper cousin
• Platinum: the high-octane gold

To start full report: THE GOLD REPORT

>Indian Banking(IIFL)

An expected spike in loan delinquencies is presently the biggest concern for the banking system. But how bad
could the situation get? We present two scenarios: moderate and bearish. In the moderate case, assuming
NPLs rise by 60% this year and the next, aggregate profit growth for all banks can slowdown to 10% in FY09
and decline by 16% in FY10. In the bearish case, assuming NPLs rise by 100% in each year, profit growth can
only creep up at 3% in FY09 and drop by 36% next year. While a profit decline is possible next year, banks’
books are expected to remain intact with healthy CAR. The BSE Bankex has corrected by 60%YTD, reflecting
some of these concerns, but any upside is likely to be capped by the negative news flow. Six major banks
presently trade at their 10-yr average PB valuation of 1.2x. Government banks appear safer than private ones.

Read full report Indian Banking(IIFL)