The falling market and your concern towards commercial banks: Eyeing out for high growth and undervalued commercial banks in this bearish trend?

 “What else can be the best opportunity for a long term investor to enter the market than the bearish trend? Do you ever wish that you had a stock picking magic wand in the ongoing bearish trend? Because, I often do. I wish, this magic wand could point out the stocks with higher growth potentiality. If only, this wand could warn me as I pick up the wrong stocks with less growth potentiality.

But alas! Neither do I hold the magic wand nor does the falling market give me enough insight on my stocks. But maybe few financial tools and ratios can work as my magic wand… ”

The best tools that business schools and stock market pioneers often teach students and investors for evaluating the status of their stocks are EPS and P/E ratio. Every next investor in the secondary market has heard and used these tools as if these tools would write a billionaire fate. There is no harm in using EPS and P/E ratio because these tools provide an insight on the earning capacity and valuation of a company. But, there is more to lose when investors rely only on these two basic tools.

 EPS and P/E ratio provide investors with the financial status of a company only at one point of time. For instance, EPS of Rs 20 tells us that the company will provide an earning of Rs 20 to investors if invested at that point of time. However, when we are investing in certain stocks, it is more important to know how the company has been doing overtime. For this, we can use two different tools as the magic wand for a better portfolio: PEG ratio and CAGR.

The purpose of this article is to analyze which commercial banks have grown throughout the years and which of them are cheaper with the use of PEG Ratio and CAGR.

Brief description on CAGR:

Compound Annual Growth Rate (CAGR) refers to the growth of a company over multiple periods of time. It is the measure of what percentage a company has grown from an initial investment to the ending investment value if the investment has compounded over time. Don’t worry if the description seems a bit fuzzy. The example will help you get a clearer view.

For example, in 2069/70, you invested in ABC Company with NRs 1, 00,000. As of 2073/74, the investment stood at NRs 5, 00,000.

Here, Initial investment of ABC is NRs 1, 00,000 and ending value of investment is NRs 5,00,000. Therefore, CAGR of ABC stands at 49.53%. This means that your investment in ABC has grown by 49.53% overtime.

CAGR is given by the formula:

CAGR = {(Ending value of investment/Initial value of investment)^ 1/n} -1

Where, n = no. of periods

A higher CAGR represents that the company has been growing throughout the years and thus, hold a potentiality to grow in the near future. A lower CAGR, on the contrary suggests that the company is not attaining a significant growth.

What does the CAGR of commercial banks in Nepal denotes?

The CAGR evaluation can be done by classifying the existing commercial banks into four categories on the basis of their market price: i) Strong and High Priced Banks, ii) Mid-Range and Mid-Priced Banks, iii) Low Range and Low Priced Banks & iv) Banks with High NPA.

Strong and High Priced banks: The strong and high priced banks are those banks which are often chosen by the investors to form up their portfolio. These banks include NBL, NIB, HBL, SBI, EBL, NABIL, ADBL and SCB. These banks usually have higher market price compared to other banks. When we dig into CAGR of these banks, all the commercial banks except Nepal Bank Limited have a lower growth rate. Nepal Bank Limited has the highest four years CAGR of 67.14%. Although, NBL has the highest growth rate, its CAGR decreased from 84.53% to 67.12%. Besides NBL, all other commercial banks have a far lower CAGR. The CAGR of few high priced banks such as NIB, SBI and NABIL has been decreasing since 2069/70. The low CAGR of most of the high priced banks implies that these banks might be at the saturation point.

Mid-Range and Mid-Priced Banks: The mid-priced banks include MBL, NMB, SANIMA, GBIME, SRBL, SBL, PCBL, NBB, BOKL, LBL, KBL and NICA. These banks have the market price range which is lower than the strong and high priced banks. On the irony, all of the mid-range priced banks have a higher CAGR than the high priced banks (except NBL). Among the mid-priced banks, Machhapuchchhre Bank Limited has the highest CAGR of 64.82%. Further, the bank has shown tremendous growth with 2 years CAGR at 43.80% and 3 years CAGR at 47.75%. Although NMB Bank and SANIMA Bank have a decreasing CAGR, these two banks stand in the second and third position with CAGR of 39.08% and 37.64% respctively. The take away from this analysis is that the mid-priced banks are growing at a better rate than most of the high priced banks.

Low Range and Low Priced Banks: Among the low range and low priced commercial banks, Century Commercial Bank Limited is performing very well with a 4 years CAGR at 46.23%. The other low ranged commercial banks such as Janata Nepal Bank and Mega Bank have a CAGR at 33.86% and 32.80% respectively.

Banks with High NPA: These are the banks with highest level of Non-Performing Assets. Provided that, these stocks are riskier investment, it might not be rationale to invest in these banks at the moment. However, a considerate improvement in their performance of these banks will always encourage investors to invest in them.

Brief description of PEG Ratio:

P/E ratio is a very common term for readers which portray Price to Earnings ratio. However, a PEG ratio refers to Price to Earning to Growth ratio. PEG ratio is the determination of a company’s stock value keeping in account the company’s earnings growth. PEG ratio is derived by dividing the growth rate of its earning for a specified period of time. A lower PEG ratio is usually considered desirable as a general rule of thumb. However, the degree to which a PEG ratio is over or under valued usually depends upon the industry and the input variables used. A PEG Ratio is believed to provide a more complete picture than the P/E ratio. Stocks with PEG ratios higher than 1 are generally considered unfavorable, suggesting a stock is overvalued. Conversely, ratios lower than 1 are considered better, indicating a stock is undervalued.

For instance, the P/E ratio of ABC Company is around 25 times. The earnings growth potentiality of the same company is 15%. What would the PEG ratio of the company be?

PEG Ratio = P/E ratio / Earning growth rate

                   = 25/ 15%

                   =1.67%

What does the PEG Ratio of commercial banks in Nepal denotes?

Among the list of commercial banks, the bank with the highest CAGR is leading even in terms of lowest PEG ratio. This implies that Nepal Bank Limited is definitely a good purchase for the investors as it has a PEG ratio of only 0.11. Among the high priced banks, despite having the lowest CAGR in 2 years, 3 years and 4 years, PEG ratio of Standard Chartered Bank is seen the highest. An investor can draw an implication that despite the low growth rate, the stocks of SCB are being highly purchased by the investors making the shares overvalued. All the high priced commercial banks except NBL are overpriced with their PEG ratio above 1.

Among the mid-priced banks, the PEG ratio demonstrates that all the commercial banks except NIC Asia are undervalued. The undervalued stocks are MBL, NMB, GBIME, SANIMA, SBL, SRBL, PCBL, BOKL, KBL, LBL and NBB. These undervalued stocks further have a lower PEG ratio compared to the high priced banks (except NBL). It shows that these banks are far cheaper than the higher priced banks. MBL, NMB and GBIME have the top three least PEG ratio of 0.29. 0.34 and 0.43 respectively. SANIMA has also relatively lower PEG ratio of 0.47. These four banks also had higher CAGR meaning that even with tremendous growth; these companies have maintained a lower price in the secondary market. Hence, MBL, NMB, SANIMA and GBIME can be the hot cakes in the near future if they keep on maintaining their growth.

Among the low priced banks, CCBL has the least PEG ratio, however, it’s PEG ratio is higher than MBL, NMB and all the high priced commercial banks. The PEG ratio of CCBL stands at 0.43. Finally, among the banks with high NPA, PRUV has the least PEG ratio (0.27) but provided its NPA, it is considered better not to invest in the stocks.

To sum up, NBL among the high priced banks and MBL among the mid-priced banks can be seen as the growing and comparatively cheaper stock among all the stocks. However, caution to be made as no financial tools and ratios are free from limitations. CAGR and PEG ratio can give a more precise analysis of these commercial banks but CAGR assumes historical growth and it is of no guarantee that the stocks that had previously done well will do the same in the future. PEG ratio further can be flawed if a long term earning growth is not considered while calculating the ratio. Despite the limitations, these two tools used by international finance experts can be worth the try if used thoughtfully.

Dear readers, what is your opinion about these two tools? Are you optimistic about this bearish trend? Do you prefer buying commercial bank’s stocks in this falling market? Do you think the stocks you hold will grow in the near future? Please do write down to us in the comment section below.

(Disclaimer:  Any kind of information that is provided in the article should not be used as a sole advice or recommendation by investors in order to design their investment portfolio. So, before taking steps for any kind of the information, the investors are required to base their judgment on their own financial analysis, appropriateness of the information and seek independent financial advice. The information of the company has been taken from the authorized sources such as website of the company, NEPSE, financial reports and press releases of the companies so, any changes not updated in these may differ in the analysis.)