Maintain Buy on Bank of Baroda - Inexplicable underperformance; anomaly should unwind - BRICS

BOB's performance has been an agony. The stock is down 17%since Jan 2012 and 15% over the last 365 days vs. PSU peers onaverage dropping 25% and 22% respectively. Such “nearly similarunderperformance” vs. PSU peers and its below-book valuation (0.9x12 month forward) defies conventional logic on comparative analysisof profitability ratios, slippages, NPA coverage or stressed assetsover last several quarters, where BOB has notched up significantlybetter performance. It seems conventional logic has convenientlyadopted the easiest theory available - Occam's razor - that a changein CMD at BOB will herald a quarter of non-performing assets (NPA)and/or underprovided but recognized NPAs. We believe it will pay inthe long term to increase exposure in BOB than at any other PSUbanks. BOB is our only Buy in the PSU space—given the negativesentiment around all PSU banks (and justified to an extent), webelieve it may be safe to play the 'unwinding of anomaly' using along-short portfolio (BOB vs. any other PSU bank), based on itsbetter profitability ratio and cheap valuation.

Is BOB suppressing NPAs (one-way ANOVA statistic)? We fed the qoqgrowth in gross NPAs for 21 PSU banks over last 12 quarters in one-wayANOVA (the Null hypothesis was that the mean growth in gross NPA of allbanks are similar). The probability of the analysis (p-value: 0.335 is morethan 5% significance level) at 95% confidence interval does not reject thenull hypothesis. Thus, the growth in gross NPA at BOB vs. any otherbanks seem to be trending in similar ways. In other words, it is tough topostulate that BOB is suppressing NPAs.

Dichotomy between fundamental and valuation. BOB has reportedsignificantly better numbers vs. PSU peers although it is trading at similarbelow book valuations (0.9x). We believe this makes BOB a reasonablelong-term investment candidate while at the same time, it makes sense totrade BOB on the long side with a short on any other PSU bank.

BOB is available at a cheap valuation

Although BOB is likely to report RoA/RoE on the lower side, better fundamentals interms of lower asset quality risks (which is the current market worry) and bettercapitalisation levels should reflect in better valuation multiples.

Source : Equity Bulls

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