This stock is the ITC of the banking sector

Is Mahindra & Mahindra (M&M) the ITC of the automotive sector? I posed this question to Equitymaster readers in November 2020. In the video, I explained the striking similarities between India’s top FMCG stocks and the evergreen automaker.

In both cases, the financial figures inspired confidence. But market sentiments about stocks were at historic lows.

More importantly, much like ITC, M&M’s stock hadn’t budged in years. Between 2018 and 2022, M&M had swung into a tight range. It reminded me of the ‘Fevicol ka majboot jod’ even on ITC stock.

M&M had lagged in new product launches. And like ITC, it had underperformed its peers enough to lose investor confidence.

But my main reason for calling M&M the ITC of the automotive sector was my belief that the company was at an inflection point in the post-pandemic recovery phase.

As markets focused on M&M’s poor quarterly performance, savvy investors invested in the stock, betting on the company’s long-term potential. Its heavily discounted valuations offered massive downside protection.

And guess what? Investors who believed in the ITC-M&M hypothesis have made 100% gains in the past two years.

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Bandhan Bank, one of India’s newest private sector banks, appears to be suffering the same fate in the stock markets.

As the tobacco industry is for ITC, the microfinance activity is the main drag on Bandhan Bank’s valuations. It is also the biggest source of problems for Bandhan Bank as the biggest source of NPA.

Every flood, drought or turmoil in the North Eastern states, especially Assam, impacts Bandhan’s loan quality and recovery rate.

For ITC, the turning point was the replacement of much tobacco revenue with food and FMCG revenue. For Bandhan, the turning point may be the replacement of much of the high-risk microfinance lending with low-risk retail lending.

Moreover, as tobacco is for ITC, Bandhan’s connection to its core business of microcredit goes back decades. Founder Chandra Shekhar Ghosh started Bandhan Bank as a microcredit entity when he saw a lender offering a Loan of 500 to a merchant at exorbitant rates.

However, he used technology and home service for small loans to grow the business exponentially.

To survive, ITC must rely on the growth prospects of the FMCG business. Tobacco regulations and tax laws make the allocation of capital prohibitive.

Bandhan Bank’s yield ratios, in single days, are the lowest among its peers. Thus, it must aggressively engage in retail credit to obtain higher lending margins at the price of low NPAs.

But if you are in a rush to make a quick buck on Bandhan Bank shares, this is not for you. ITC and M&M have, over time, corrected the flaws in their respective businesses. This earned them better valuations.

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It would be highly speculative to bet that Bandhan Bank’s yield ratios or NPAs will improve significantly in the next quarter itself. But the trend is visible.

Additionally, since banking is a leveraged business, both positive and negative business prospects can be magnified. Therefore, only a long-term investment approach to get the most out of value buying should be your goal.

And rest assured, there are plenty of “ITCs” in other sectors as well.

Disclaimer: This article is for information only. This is not a stock recommendation and should not be treated as such.

This article is syndicated from Equitymaster.com

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