From Mallu to Mobile ??
NIFTY 50: 20,969 (4%)
NIFTY 10Y Benchmark G-Sec Index: 2,212 (0%)
Founder’s Recap
Higher Inflation on the Way? ??
Another good week for the markets as the Nifty 50 inches up by 3.5%, with numerous stocks in the power, banking and IT space ploughing through any possible red you may see in your portfolios.
The markets cheered RBI’s move to keep rates unchanged at the MPC meeting. With a majority vote, rates remained at 6.5%, for the 5th meeting in a row. The RBI however cited that the outlook for inflation remains uncertain, with near-term risks because of food inflation.
While the concern of inflation hasn’t been showing up in decision on rates, the RBI said it remains on high alert to monitor and act against any threat against the ongoing disinflation.
Inflation Risks High
In October 2023, India’s inflation had eased to a four-month low of 4.9%, from 5.0% in the previous month. However, food inflation, which accounts for nearly half the overall consumer price basket had risen slightly to 6.61%, compared to 6.56% in the previous month.
While the rise was minute, it has the potential to accelerate for November and December 2023. The rise in prices of onions and tomatoes, and high prices for pulses are likely to push food inflation higher, more than offsetting the easing of fuel inflation.
This may delay inflation from reaching RBI’s targeted level of 4%.
Fiscal Action Already On
The government has already sprung into action by reducing the stock limit of wheat that traders and wholesalers can hold by half to 1,000 tonnes, while also lowering limits for millers and retailers.
Additionally, the government said it is prepared to release an additional 2.5 million metric tonnes of wheat in the market to control prices.
India has also banned the export of wheat and non-basmati rice this year, along with capping sugar exports.
Last week, it also directed sugar mills to not direct their sugar production towards ethanol, so that sugar supply and prices can remain under check.
Tightening by the RBI
While the RBI maintained rates in the MPC meeting last week, it didn’t throw any surprise at the market. Like, back in August, the RBI introduced an incremental cash reserve ration (I-CRR) to take out excess liquidity out of the system.
And in October, the RBI said it could conduct Open Market Operations (OMOs) by selling bonds. This is often used as a liquidity-absorbing tool.
Although no OMOs were conducted after the comments in October, the option always remains open for the RBI to undertake if it has to either control inflation, or prevent the economy from overheating.
What Next?
The effort by the government on food inflation control, and the opening up of the option to use OMOs to tackle liquidity seem like prudent measures to tackle risks, thereby avoiding a rate hike.
After all, the risks seem near-term in nature, and if controllable by other measures, render the need to slow the economy down unnecessary.
India has exhibited significantly promising growth prospects, with the recent data’s surprising 7.6% growth in GDP. This even nudged the RBI to raising overall FY24 growth expectations for India to 7% (from the previous 6.5%).
While disinflation, RBI’s ‘withdrawal of accommodation’ stance, and India’s accelerating growth are great catalysts for the markets, higher-than-expected inflation might just be a short-term party pooper!
Market Stories
Federal Bank: From Mallu to Mobile ??
Did you know, 80% of all Indians that live in the Middle East, are from the state of Kerala? The stereotype truly fits and has been a long-standing story, with NRIs making up for more than 20% of the state’s GDP when they send money back.
With so many of our Mallu friends crowding the streets of the Middle East, and sending precious oil money back home to Kerala, a small Trivandrum-based regional bank called Federal Bank sore in popularity.
Federal Bank is so strong in the NRI game, that it commands a market share of 30% of all foreign funds being deposited in Kerala, and a 20% market share in foreign remittances in the entire country. This took Federal Bank from being a penny stock throughout the 1990s and early 2000s to becoming a known regional bank by the 2010s, sending the stock 10x.
But you know what else Federal Bank has a strong game in? Believe it or not - digital banking! Over the last decade, it has not only devised the fastest digital account-opening process, but also become the backbone for most new-age credit card issuers, neo-banks and digital lenders.
Will the mallu-to-mobile transformation further 10x Federal Bank?
The Mallu to Mobile Transformation
While the NRI-wave worked well for Federal Bank, ambitions at the bank were to breakout of being a regional bank, and become a known nationalised player. In 2011, Federal Bank brought in just the right man for the job - Shyam Shrinivasan.
He identified 3 ways to turn Federal Bank from a small pre-independence era bank, to a name that could define what banking could be.
The NRI opportunity had been working well for Federal Bank by default, thanks to the trends in Kerala. Federal Bank chose to rise to the occasion by offering attractive cross-border remittance services, and exclusive care to those clients.
Federal Bank’s offered some of the highest deposit rates in the industry (0.5-1% higher than larger banks like HDFC and ICICI), which made it the default choice for NRI, in addition to the fact that interest is tax free on NRI deposits.
NRI deposits now make up 25-28% of total deposits as opposed to around 12% in FY10, and have grown more than 10x to Rs. 76,394 crore in FY23, from Rs. 7,350 crore in FY10.
2. Aggressive Nation-Wide Expansion
During the course of the last 12 years, the banked population of India went from 44% of total population to 78%, whether that was through government initiatives or banks taking it upon themselves to capitalise on that opportunity.
Federal Bank aggressively tapped into the market and went on a spending spree. From FY10 to FY18, branches and ATMs grew rapidly towards 1,252 branches (2x the number in FY10) and 1,696 ATMs (2.7x the number in FY10) across the country.
The bank expanded geographically, and stepped out of home turf to make its brand known, and presence felt across the country.
3. Leading the Digital Way
The bank realised pretty early on that being digitally-forward was the future, and took steps to transform itself and stand out amongst its traditional banking peers.
It was prompt on automating painful paperwork and processes to open bank accounts and apply for credit cards via their app/website, making it an end-to-end 5 minute ordeal (which is rare for a bank that is perceived to be regional).
Over the last 5 years, its digital-first approach has shown magnificent results:
The Next Leg of Growth
Despite doing well for itself in digital banking, Federal Bank, like all its traditional peers, faced the threat from neo banks. Wait, what are neo banks?
Neo banks are basically companies that offer banking services on a cooler interface. But since banking licenses aren’t just handed over to any Tom, Dick and Harry, they need to partner with existing banks.
Existing banks offer APIs to neo banks, which neo banks build a cool interface on top of. So while you see a fancy expense tracker and round-up investing option on your neo bank app, the underlying bank account is with a traditional bank.
Neo banks have risen to popularity across the globe as traditional banks find it hard to transform themselves, or even adopt methods of growth that new companies can. Recognising the opportunity and limitations, Federal Bank chose a unique route to make the most of the rise of neo banks, while also not burning copious amounts of cash.
The Bank for Neo Banks
Federal Bank upped its tech stack and offered APIs to most promising neo banks. It dominates the space, being among the top 4 preferred banks in the country with more than 75 partnerships, especially with large names like Jupiter and Fi Money.
These partnerships are so promising that Federal Bank expects them to contribute to 25% of its incremental deposit growth, and nearly 50% on the lending side.
Other large traditional banks like HDFC Bank and SBI have not been active on partnerships and have focused towards building their own digital assets.
This route tends to fail because of a legacy mindset, lower appetite to adopt new means of customer acquisitions, protection of old ways, and traditional structures; leaving little competition for Federal Bank on its chosen route.
Toh Phir Problem Kya Hai?
Kuch nahi! All seems to truly be hunky dory with this massive turnaround story. Just take a look at the numbers yourself:
Supernormal growth, improved management of loan book, and insane tailwinds - yet the bank is trading at a 1-year forward P/BV of 1.3x. For context:
The neo banking opportunity can provide massive upside in terms of a business upgrade and perception for Federal Bank given the fact that it already has access to almost 50% of the top 4 neobanks (5 million+ subscriber base), and with India at a 1% penetration rate in neobanking across the country (while countries like the USA and UK are at 5-6%).
As it matures, the neo banking play has potential to not just drive industry-leading growth, but also result in industry-leading valuations.
From mallu to neo, Federal Bank has truly “understood the assignment” and transitioned to being something much greater than its previous self, pre-Shrinivasan. Investors can only hope that valuations also match this new-found identity!
We’ve discussed all this and more on our weekend podcast called Common Cents so check it out using the link below!
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