State-run lenders in India posted a sharper decline in bad loans than expected in the March quarter, raising investor hopes the worst is past for a sector hurt by the slowest economic growth in a decade.
Shares in Punjab National Bank (PNB), India's No. 2 state bank, surged as much as 6 percent after it said bad loans dropped to 4.27 percent of the total in the quarter compared with 4.61 percent in the December quarter.
Union Bank of India shares surged 6.6 percent after its non-performing loans dropped to 1.61 percent of the total in the fiscal fourth quarter compared with 1.7 percent the previous quarter.
"I would not say there is an outright improvement in numbers, but people would be taking a view that things are bottoming out from here," said J. Venkatesan, fund manager at Sundaram BNP Paribas AMC, which owns stakes in several state banks.
"So, two-three quarters down the line, if asset quality really improves then there is definitely a case for re-rating public sector banks because they are available cheap," he said.
Most public sector banks trade below their book value.
Privately run HDFC Bank, among the most expensive banks in the world, trades at 5.4 times whereas India's largest lender, State Bank of India, trades at just 1.3 times.
PNB Chairman K.R. Kamath told reporters on Thursday the lender would boost recovery efforts and curb defaults over coming quarters. He also said he expects asset growth to outpace the industry in the current year.
"Next year ... you can definitely look for a much improved performance unless we have some surprises from the economy," Kamath told reporters. "The reduction (in bad loans) is a result of a hard-core effort."
State-owned banks have disappointed investors over the past year with poor performance and worsening asset quality.
On Thursday, PNB posted a 21 percent drop in net profit while Indian Bank's profit fell over 15 percent on higher bad loans. Earlier this month, smaller rivals Allahabad Bank and UCO Bank saw net profit fall about 68 and 80 percent, respectively.
In contrast, India's top two private sector lenders, ICICI Bank and HDFC Bank, have been consistently reporting higher profit growth and stable asset quality.
The contrasting results had earlier caused investors to dump shares of public sector banks and shift to the private sector with ICICI and HDFC Bank becoming favourites.
During tough spells in the economy, loans made by state-run banks, which account for 70 percent of the market but whose lending decisions are not always driven by purely commercial factors, are more likely to fall into default.