PakistanBankingSector

Headwindstosettle?
CommercialBanksSectorPerformance
Absolute% RelativetoKSE% 1M 2% 0% 3M 34% 11% 12M 29% 30%

ThursdayJuly11,2013 The recent news reports suggest that the central bank of Pakistan may, 1) Directly reduce the Minimum Deposit Rate requirements (MDR) by 50100bps to 5.0%5.5% or2)MakeMDRavariablearrangement(linkedtotheKIBOR) These rumors have finally been able to bring some interest into the banking stocks whichremainedoutoflimelightforlong. Historically following any cutin policy rates, the commercial banks have lobbied for a similar treatment for MDR. This time also, as per the rumors, the 50bps cut in discount ratesa month agohas givenfreshhopes to thebanks thatcentral bank may reconsiderMDR Taking cue from earlier responses of the central bank, which were to refrain from providing any support to the banks despite cutting policy rates by as much as 500bps inlast24months,werejectthemarketsbasisforrejoicing Withdepositgrowthbeingroutedtogovernmentpapersforbudgetaryfinancing,the impact of a reversal in policy rate cycle in the next MPS, if not after that, would bode positiveforthebankingsector

BMAUniverseVal.SummaryCY13E

MCB NBP HBL UBL BAFL BAHL Target Total PBV D.Yield Price Return 225 50 113 110 19 34 9% 13% 9% 10% 6% 17% 2.5x 0.7x 1.4x 1.8x 1.0x 1.4x 6% 14% 9% 6% 12% 8% EPS Growth 1% 10% 7% 3% 3% 17%

Banking sector, having faced the headwinds since initiation of monetary easing cycle in early 2012 and introduction of minimum deposit rates (May08), seems to have gotten some relief finally, at least as suggested by the recent news reports. These reports state that the central bank of Pakistan, to ease off some pressure from the ever lower banking spreadsmay: 1) Directly reduce the Minimum Deposit Rate requirements (MDR) by 50100bps to 5.0%5.5%or

RelativeCommercialBanksSectorvs KSE100Index
CommercialBanks 170 155 140 125 110 95 80 Jul12 Aug12 Sep12 Oct12 Nov12 Dec12 Jan13 Mar13 Feb13 Apr13 May13 Jun13 Jul13 KSE100Index

2) MakeMDRavariablearrangement(linkedtotheKIBOR) These rumors have finally been able to bring some interest into the banking stocks which remained out of limelight for long. Resultantly, the sector rallied by 13% outperforming thebroaderindexby4%inthelasttwoweeks.Weintendtolookupontheimplicationsof the following proposals on the banking industry following our take on the scenario in the reporttoday.

Howdiditallstart?
To secure the rates earned by the depositors on savings accounts (40% of total deposit sizeasofDec12),SBPimposedarequirementonthecommercialbanksin2008toprovide aminimumprofitrateof5%.ThoughtheimpactofMDRimpositionincreasedtherateson outstanding deposits by 73bps (average at 4.12% compared to preceding 12months average of 3.39%), the even higher growth in rates on advances managed to hike the bankingspreadsby29bpsintheproceeding12monthsoftheimpositionofMDR. However, things started to change soon after. With continuous slowdown in inflation and to spur the growth, the policy rates were cut by approx. 350bps in two and half years, along with another 100bps increase in MDR in Apr12. This led the average banking spreads to decline by 109bps to 6.23% in 5M2013 compared to 7.32% in 5M2010 despite commercialbanksrigorouseffortstoattractmorecurrentaccounts.

FurqanPunjani
Furqan.punjani@bmacapital.com +92111262111Ext:2064
BMACapitalManagementLtd.801Unitower,I.I.ChundrigarRoad,Karachi,74000,PakistanForfurtherqueries,pleasecontact: bmaresearch@bmacapital.comorcallUAN:111262111 This memorandum is produced by BMA Capital Management Limited and is only for the use of their clients. While the information contained herein is from sources believed reliable, we do not represent that it is accurate or complete and should not be relied upon as such. Opinions expressedmayberevisedatanytime.Thismemorandumisforinformationonlyandisnotanoffertobuyorsell,orsolicitationofanyoffertobuy orsellthesecuritiesmentioned.11

Isthejubilationjustified?
Historicallyfollowinganycutinpolicyrates,thecommercialbankshavealwayslobbiedfor a similar treatment for MDR. This time also, as per the rumors, the 50bps cut in discount rates a month ago, which would reflect upon the banking spreads in a couple of months, hasgivenfreshhopestothebanksthatcentralbankmayreconsiderMDR. However, we believe otherwise. Taking cue from earlier responses of the central bank, whichweretorefrainfromprovidinganysupporttothebanksdespitecuttingpolicyrates by as much as 500bps in last 24 months, we reject the markets basis for rejoicing. Moreover,givenreentryintoIMFprogramtoeventuallyincreasepolicyrates(ifbudgeted revenues fail to materialize coupled with uptick in inflation), we believe a reversal of the current easing cycle is in sight. Subsequently we expect the banking spreads to regain theirlostmomentum. DepositRatesvsMDR

Outstandingdeposits 7.0% 6.5% 6.0% 5.5% 5.0% 4.5% 4.0%

MinimumDepositRates

MDRIncreasedto6% MDRIntroducedat5%

Sep12

Jan13

Source:SBP,BMAResearch

Doesavariablearrangementmakesense?
Though, we have not been provided with any indication by our sources in the industry regarding linking the MDR to any variable arrangement, the news reports suggest it may be linked to KIBOR. Hypothetically assuming a fixed spread of KIBOR minus 4% (which makes our hypothetical MDR 5% for current KIBOR compared to actual MDR of 6%), the reversal in monetary easingcycle may lead banks to losemore in the long run rather than being able to provide a current temporary relief. Thus, we maintain our view that relief, if any,wouldcomefromadirectcutratherthanlinkingittoKIBOR. BMABanks
(PKRmn) MCB NBP HBL UBL BAFL BAHL Deposits Savings sav/dep 566 926 1,249 762 451 346 284 321 526 246 155 112 50% 35% 42% 32% 34% 32% FullYear Impact 0.51 0.32 0.59 0.60 0.31 0.30
BMACapitalManagementLtd.801Unitower,I.I.ChundrigarRoad,Karachi,74000,PakistanForfurtherqueries,pleasecontact: bmaresearch@bmacapital.comorcallUAN:111262111 This memorandum is produced by BMA Capital Management Limited and is only for the use of their clients. While the information contained herein is from sources believed reliable, we do not represent that it is accurate or complete and should not be relied upon as such. Opinions expressedmayberevisedatanytime.Thismemorandumisforinformationonlyandisnotanoffertobuyorsell,orsolicitationofanyoffertobuy orsellthesecuritiesmentioned.22

Inanutshell
Though we have quantified the impact of MDR cut on our banking universe (table on the left side), we hardly believe the jubilation to materialize. However, with deposit growth being routed to government papers for budgetary financing, the impact of a reversal in policy rate cycle in the next MPS, if not after that, would bode positive for the banking sector. Currently we maintain our valuation targets for the banks with BAFL and BAHL as ourpreferredplays.

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