Second-tier PSU banking stocks are on fire. Here’s why

One year ago when the top market indices hit an all-time-high, state-owned banks were an outlier and were trading way below their peaks. The Nifty PSU Bank index, which had hit a high in March 2011, tried to break out again in November 2014, but failed.
 
In May 2020, when the stocks crashed with the initial surge of the Covid-19 pandemic, the index touched its lowest level, down three-quarters from the peak. But, investors who had been maintaining a bearish sentiment on the banking sector at large and on public sector lenders in particular for a long time now, now appear to be rerating the space.

The uptrend in banking stocks that has seen Nifty Bank index climb around 13% since the rally started in end September, the Nifty PSU Bank index, in contrast, has shot up nearly 30% in the same period.

On Monday, the Nifty PSU Bank index crossed its seven-year high and even though it has still some distance to cross the previous peak, investors seem convinced that the worse is over.

Among the top gainers, UCO Bank and Bank of Maharashtra are leading the show in mid-day trades having rocketed 18% and 14%, respectively. IOB, Central Bank, Punjab & Sind Bank were the other stocks that rose nearly 10% on Monday.

The top two most valued PSU banks, SBI and Bank of Baroda, were among the handful along with Indian Bank, showing some softness as outliers.

So, what’s driving these PSU banks?

Analysts say these lenders have the advantage of a strong liability franchise and from the valuation perspective, they are now looking super attractive.

While the top private sector banks are trading at 2.5-3x their book value, these second tier PSU banks are available at less than half and in many cases at a quarter of their private sector peers.

The pickup in bank credit and expectation that these banks will benefit like others but with the advantage of lower valuation, makes them a prime buy.

Some generic factors that are boosting investor appetite for banking stocks include asset quality improvement after a long clean-up drive and credit growth.