Equity 21 May 2013, 9:40am

ANALYST VIEW - Citi ups target price for Hungary's OTP

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Citi has raised its target price for OTP Bank to HUF 5,600 from HUF 5,460 previously, saying Hungary’s largest bank has not only weathered the financial crisis admirably, it is also coming out of the crisis better capitalised than it went into it. Following a number of years of heavy provisioning, Citi’s analysts think the asset quality outlook is poised to turn given decelerating NPL formation and strong provision coverage. The rating on OTP is ’Buy’.

On the back of risk cost problems in Russia Citi substantially increased its risk cost forecasts and lowered earnings estimates (-28% this year) for the Russian division for 2013.

OTP's Q1 2013 results highlighted a major collections problem in its high-margin unsecured consumer lending business in Russia: risk cost in the division increased to 11.9% from 7.6% in 4Q12, Citi analysts Simon Nellis and Stefan Nedialkov reminded in a research note published on Monday.“Better margin dynamics emanating from the introduction of new high-APR cash loan into the product mix and assurances that the bank will deal with the collection issue lead us to make much smaller downward earnings revisions in subsequent years of between 3-9% per annum," they added.

In contrast to Russia, risk cost in Hungary fell for the fourth consecutive quarter to 146bp in 1Q13.

“While the NPL ratio in Hungary continued to rise, the increase was concentrated in FX mortgages and we expect further take-up of the government-sponsored fixed exchange rate scheme to lead to stabilization in FX mortgage delinquencies," Nellis and Nedialkov said.

Furthermore, GDP growth has surprised on the upside, increasing by 0.7% yr/yr in January-March, which, in their view, should be supportive of asset quality in Hungary.

The analysts expect continued rates cuts in Hungary to put pressure on the Hungarian margin, leading them to trim their Hungarian net interest income forecasts and their Hungarian earnings forecasts by a moderate 1-3% per annum over Cit’s forecast horizon.

The analysts have also become more bullish on OTP’s capital return. Management made a point of indicating that it saw its capital position as healthy and that this would allow the bank to gradually increase dividends and potentially return capital via buybacks over the next 1-2 years or deploy capital in new acquisitions. This led Nellis and Nedialkov to adjust their valuation for excess equity, driving an increase in their target price to HUF 5,600 from HUF 5,460 previously. They have retained their ‘Buy’ rating on the shares.

The key risk to the above TP is weaker growth than anticipated in OTP's key markets, which would be bad for business activity and risk cost, they said. “A significant weakening of the HUF vs. the CHF, given the bank's large exposure to CHF mortgages and car loans to unhedged Hungarian retail clients, would also be negative for the shares."

The analysts reminded that the Russian division's niche franchise in consumer lending is potentially under pressure from new players and they noted that the Hungarian government could also come up with schemes to reduce the exposure of FX debt in the banking sector that may require the banks to incur losses.