Banking stocks gained prominence after the Reserve Bank of India’s (RBI’s) recent hike in the repo rate by 35 basis points.
As an investor, one needs to ensure checking a few metrics before parking money in banking stocks.
Firstly, while evaluating the banking stocks, check the amount of their total cash deposit. A look at the credit deposit ratio (CDR) of the bank will help to determine this. It highlights the funds lent to customers out of the total amount raised through cash deposits. The higher value of CDR means optimal utilisation of funds.
Capital adequacy ratio (CAR) is another metric to check before investing. As per the RBI, the minimum CAR ratio of a bank should be 10. This ratio indicates that banks do not expand and grow their business in case of the insufficient capital buffer.
Basically, to check the profitability of a banking stock, the two standard parameters are return on assets (RoA) and return on equity (RoE). It’s a cause of concern if a banking stock’s RoA or RoE deviated excessively from the same ratios of stocks of other banks.
Also, keep an eye on the operating profit margin of the stocks that are shortlisted. If the bank can manage its expenses, it’s a positive sign.
Reducing overheads is essential for any bank. Banks tend to control this with the aid of technology upgradation and branch rationalisation. The cost-to-income ratio of a bank highlights whether it is working in the right direction toward controlling overheads.
Net interest margin (NIM) is the percentage of average earning assets. A health check of a bank’s deposit generating and lending operations are highlighted. An investor needs to track the past performance of a bank related to NIM.
The price-to-book (P/B) ratio is an essential metric for evaluating any stock. In this regard, the ideal way is to check the current P/B ratio of a banking stock and compare it with the P/B ratio of the past five years. Also, check it against the P/B ratio of other peer stocks.
Finally, never rely on or follow a stock marketing tip blindly, no matter how credible the source is. Always ensure conducting research with due diligence.
Rajiv is an independent editorial consultant for the last decade. Prior to this, he worked as a full-time journalist associated with various prominent print media houses. In his spare time, he loves to paint on canvas.