As we head into the Republic Day weekend, a mixed results season has turned stock markets volatile. On January 17, the Sensex recorded its worst single-day decline in 18 months. The Bank Nifty had a particularly bad day, falling 4.3%, and HDFC Bank saw its biggest drop (-8.4%) since the Covid crash in 2020, on the back of its disappointing Q3FY24 results. 

HDFC Bank continued to fall earlier this week, dragging down the Bank Nifty. This is in sharp contrast to the recent bullish trend, with Indian markets hitting all-time highs in early January, thanks to better than expected results from IT companies. 

What led to HDFC Bank’s crash? Was it high expectations set by management, or broader challenges in the banking sector? Let’s take a closer look at the giant that sneezed.

In this week’s Analyticks, 

• HDFC Bank sneezed, markets caught a cold: Why did HDFC Bank stumble with its Q3 results?
• Screener: Stocks with over 2% decline in promoter holdings

HDFC Bank’s Q3 estimates miss took investors by surprise 

If you are relieved about not holding HDFC Bank stock during its 14% fall in the past week, you may want to reconsider: the bank has a massive 13.2% weight in the Nifty 50 index. So, if you are invested in a mutual fund or an index fund, you are likely holding shares of HDFC Bank. Its roots go deep in the stock market. 

A major reason the stock plummeted post-results was its net interest margin (NIM) missing analyst estimates, and coming in flat QoQ at 3.6%. The margin had already fallen from 4.3% to 3.6% in the previous quarter after the merger with HDFC, due to HDFC's higher borrowing costs and a lower-yield loan book. 

Mergers, like marriages, are hard. So analysts and investors would have been fine with the bank taking some time to consolidate and find its feet after the merger.

But instead, analysts forecast a margin improvement in Q3 itself – a very tight timeframe for the bank to get its act together.

What drove this optimism was likely the remarks from management itself. HDFC Bank CFO Srinivasan Vaidyanathan was upbeat in the Q2 earnings call,  and said that margins would improve “over a period of time”, providing no indication of continued challenges post-merger.

The NIM  is an especially crucial number, as HDFC Bank always set the industry standard with NIM over 4% before the merger.  So when the bank's margin failed to recover in Q3, the stock plunged. Jefferies said that the margins were a ‘key miss’ and highlighted the need for higher retail deposit mobilisation and lending to boost the NIM. 

HDFC Bank’s NIM falls sharply post-merger and fails to improve in Q3

Why are margins being squeezed so badly?  HDFC Bank is facing twin problems – first, a strategic miscalculation in deposit growth, and second, an industry-wide challenge of rising cost of funds.

Weak deposit growth compared to loan growth squeezes margins 

Banks must take with one hand and give with the other – they depend on their deposits to provide loans. But when loan growth is higher than deposit growth, banks have to borrow the funds they need to lend to customers, leading to lower margins. 

Major private banks, including HDFC Bank, are facing much slower growth in deposits compared to loan growth. 

Major banks see loan growth outpacing deposits in Q3

HDFC Bank’s deposit growth for the quarter was just 1.9%, indicating a weak offtake. Investors weren't expecting this, given the  positive commentary by CEO Sashidhar Jagdishan in October 2023, who insisted, “We are confident that funding [deposits] is never going to be an issue.”

But it looks like deposit growth is clearly a challenge. To increase deposits, the bank had announced plans to open 1,500 new branches in FY24. However, the management has acknowledged that it will fall short of its goal and revised the target to around 1,000.

Another factor in slow deposit growth could be the management’s outright refusal to raise interest rates on deposits to compete with other banks. Vaidyanathan said, “We would never say we are the best-priced deposits. We're not trying to differentiate on the price, we are trying to differentiate on offering other features".

Admittedly, that sounds a tad over-confident.  

Problem #2: Post-merger woes as CASA growth stalls 

The current and savings account (CASA) ratio is the proportion of deposits in current and savings accounts against the total deposits. Higher the CASA ratio, the better for the bank since this means lower cost of funds, as banks pay much lower interest on these products. Banks do not usually give interest on current account deposits, and the interest on savings accounts is very low. 

But the CASA ratio fell sharply post-merger and is yet to recover. HDFC Bank’s management is focusing on customer additions to raise this metric. 

HDFC Bank’s CASA ratio fails to recover after a sharp fall 

Without an increase in the CASA ratio, the cost of funds may keep rising. HDFC Bank’s cost of funds has jumped sharply in the past year, especially post-merger. 

Cost of funds on an uptrend as CASA ratio falls 

Long known for its consistent growth and high NIMs, HDFC Bank is now facing some tough challenges. The rising cost of funds, weak deposit growth, and impacts of the merger are all problems the management will have to address at the same time. 

There is one silver lining: 70% of HDFC’s customers do not currently bank with HDFC Bank, providing a huge cross-selling opportunity post-merger.

Still the bank’s share price movement indicates widespread disappointment with the post-merger bank. When Sashi Jagdishan took over as CEO from Aditya Puri in 2020, he was considered the “classic insider”, with many calling him the “ideal successor.” But the management will have some convincing to do in the upcoming quarters that the bank is in good hands.

Screener: Stocks with over 2% QoQ decline in promoter holdings 

Polyplex Corp records largest QoQ promoter holding reduction in Q3FY24

With most companies having released their Q3FY24 shareholding data, we take a look at stocks where promoters sold their stakes. This screener shows stocks with more than a 2% decrease in promoter holdings.

There may be many reasons for a drop in promoter holdings, but investors often see it as signalling a lack of confidence in future growth. So promoter sales can trigger selling from other investors. Promoters may also sell their stake to earn profits when shares have risen sharply.

The promoter selling screener is dominated by stocks from the banking & finance, commercial services & supplies and consumer durables sectors. Major stocks that appear in the screener are Polyplex Corp, Sterling and Wilson Renewable Energy, Sapphire Foods India, KFIN Technologies, Bank of India, Ircon International, Housing & Urban Development Corp and Home First Finance.

Sterling and Wilson Renewable Energy saw its promoter holding decline by 14.6 percentage points in Q3FY24. This took the promoter holding to 53% during the quarter. The reason for selling could be profit-booking after the sharp rise in its share price (+103% in the past quarter). The company posted a 37.1% YoY contraction in its net loss to Rs 63.7 crore in Q3FY24. Funds that picked up shares sold by the promoters were ITI Focused Equity Fund Regular Growth (+ 4% stake), Bandhan Infrastructure Fund Growth (+1.5% stake) and Bandhan Multi Cap Fund Regular Growth (+1.2% stake). 

Sapphire Foods India also features in the screener as its promoter holding fell by 10.4 percentage points during Q3FY24. This took the promoter’s holding to 31.3%. This company’s stock price has risen by 3.1% over the past month and 8.7% in the past quarter. The hotels, restaurants & tourism company’s promoters, Sapphire Foods Mauritius and Samara Capital Partners sold almost 6% stake in the company for a total consideration of Rs 530 crore. These shares were picked up by funds like the Singapore Government and HDFC Mutual Fund for Rs 141 crore and Rs 308 crore respectively. 

You can find more screeners here.