March 4, 2008

Allahabad bank – The risk materializes

update : 03/04 (referred to in the comment on this post) is also my website. I eventually plan to migrate this blog to that website. however my new website is still beta. I need to improve the look and feel of that website. As a result i have not publicized it, thinking no one will notice it. I guess i was wrong. Anyway, i will be posting my posts on both locations at the same time.

I had written on Allahabad bank earlier. I mentioned the following as a key risk

The biggest risk for the bank is political interference. As the majority shareholder is our government, you can never be sure what hairbrained scheme they will come up with. In the past there have been loan melas, loan writeoff etc. This has reduced in the last few years, but you never know.

Well, the risk has materialized. The FM has announced a loan waiver for small farmers to the tune of 60000 Crs. Forget about the fact that this money may never reach the farmers, a part of this money could come from PSU banks like Allahabad bank which has a 55% Government holding.

The bank has a 7000+ cr loan portfolio for the agricultre sector. The best case scenario is that the government would compensate the banks completely for this waiver, but I think that is unlikely. A probable scenario is some losses on this portfolio. A 10% loss on this portfolio would be a 20% hit to the Networth of the Bank. In addition PSU banks could get poor valuations going forward as the market will not trust that the government would not pull off a similar scheme again in the future.

This case is different from HPCL (see analysis
here). In case of HPCL, the subsidy is priced into the stock. Any positive development such a moderate price hike would help the company. In case of allahabad bank, this risk is not priced into the stock.

As of now, I am not sure how this will play out. I generally do not concern myself with price movements. However a fundamental development such as the one above is different. I may be wrong on this one and this development in the short term, may not impact the company. However this is definitely a moral hazard for banks in the long run. Rural borowers may start expecting such writeoffs again in the future. Net Net, I am not interested in risking my capital to find out.

Disclosure : I have maintained a small position in the stock as the stock seemed undervalued, but not by a big margin. However I am now planning to exit the stock completely.


Anonymous said...

Well done rohit.. I appriciate your copying the article from the following link.. It was easier to read on your website rather than the one posted below.

By the way, what was contribution from your side?

Anonymous said...

Dear Sir,

Should I buy Allahabad bank? Do you recommend buying this?

I was actually thinking of buying a 50% stake in this bank. Do you think it is enough? Or should I go for more?

Thanks for such a nice blog.

kaho pyare said...

anonymous, looks like both blogs are maintained by Rohit.

Rohit Chauhan said...

dear anonymous

both are my websites. i have created my own domain and have cloned my blogspot blog to that location.

the new website is still in beta and i am working on it.

well anyway thanks for noticing it


VISHNU said...

Hi Rohit..

I still like this blog than your website.
BTW I have read the Margin of Safety..Only think I like about this book is the chapter about investing in Bankrupt Companies Securitities.

Berkshire Hathway published new Letters to Shareholder.As usual Warren has thrown lots of wisdom..
Lot of the words got repeated..But still enjoying and learning from Warren (yes as well as from Graham)


Rohit Chauhan said...

Hi vishnu

dont say that !!(just joking). let me know why you dont like the website (over this blog!). content cannot be the cause as both are clones.

anyway i was planning to ask for feedback later when my website was in a better shape.

agree with your comment on the book.

I like warren's description on the great, good and gruesome business in the AR. it was a great section