In 2017, Investment Research Group, Inc. (d/b/a is breaking down boundaries and opening offices in 3 new countries, India, China and Australia.

India’s growth dwarfs the majority of its global peers and India’s economic growth rate, projected by various agencies and the Indian Finance Ministry for 2016-2017, ranges between 7.4 and 7.75 per cent.

India’s resilience to global macro factors can be attributed to its young demographic base and an economy driven primarily by domestic consumption. Every month over 1 million Indians reach the age of 18 and 56 per cent of its population is below 30 years of age and 65 per cent is below 35 years of age.

The burgeoning working age population and consumption boom gives India a competitive edge over countries that are ageing fast. These favorable dynamics, combined with better economic management & continuing structural reforms by the Modi Government, are attracting investors from across the world.

The Bombay Stock Exchange is the oldest in Asia with over 5,500 listed companies from diverse sectors. This offers global investors the diversity they cannot find on many of the world’s leading stock exchanges.

First Recommendation

PNB Gilts Ltd​[BSE Code: 53​2366, NSE Code: ​PNBGILTS​]​. ​PNB Gilts​ Ltd​ ​is a small cap company with market capital of ​764​ crores and ​is the only listed primary dealer of government securities.

Company Background:

PNB Gilts Ltd is a leading primary dealer in the Government Securities Market. The company undertakes more than 90% of their operations in Government Securities. The range of product and services offered by the company includes, Treasury Bills, Central Government Dated Securities, State Government Securities, PSU Bonds, Inter-Corporate Deposits, CSGL accounts, Money market instruments etc. In addition, they also offer advisory services to our clients to manage the government securities portfolio. The company is a subsidiary of Punjab National Bank.

In 1996 Reserve Bank had introduced the system of Primary Dealers with a view to strengthen the institutional infrastructure of government securities market. Six entities were granted licenses of which PNB Gilts was one. The company was established as a wholly owned subsidiary of Punjab National Bank with an initial paid up capital of Rs 50 crore. The net-worth of the company has increased from Rs 50 crore to Rs 764 crore. It is the only listed primary dealer in India and the public shareholding in company is 25.93 percent.

75% stake in the company is owned by PNB and 25% is the only floating stock. The book value of the company is Rs 45.62. PNB Gilts is the one of the few financial services stock which is available at less than the book value.

​​ ​Recent Developments​:

i) India’s benchmark 10-year bond yields have dived 36 basis points to 6.44 percent, a 7-1/2 year low – 18th Nov 2016

A surprise move by the Indian government to withdraw over 80 percent of the country’s currency in circulation has sparked a rally in bonds that could extend into late December as markets bet on a rate cut as soon as next month.

Earlier the rate cut by RBI was expected in February, but now expectation of a rate cut in December is building up given that the demonetisation move is fiscal and inflation positive. The near term hit to the economy has fed expectations of a rate cut in December, helping stoke the rally in Indian debt.

Inflation already eased to 4.20 percent in October, undershooting the RBI’s 5 percent target by March. Considering lower inflation and demonetisation impact, RBI is expected to cut rates by 50 basis points by early 2017, compared to previous expectation for 25 basis points.

India’s benchmark 10-year bond yields have dived 36 basis points to 6.44 percent, a 7-1/2 year low, since Modi’s banknotes announcement. That contrasted with the 10-year U.S. Treasury yield rising to an 11-1/2-month high on the view Trump’s policies will prove reflationary and lead to faster-than-expected Federal Reserve rate increases.

Short-term rates have also slumped, with bulk deposit rates down by as much as 42 basis points, reinforcing the view that the Reserve Bank of India may cut the repo rate in December, instead of earlier expectations for a cut in February or April.

ii) PNB Gilts shareholders raise borrowing limit to Rs 7000 Crores – 17th Sept 2016

PNB Gilts shareholders have approved a special resolution to enable the board to raise up to Rs 7,000 crore against earlier borrowing limit of Rs 5,000 crore.

PNB Gilt’s current book is at Rs 4500 crore and the company has sufficient margins to increase the book size if opportunities come.

The proposal was approved by the shareholders through voting in favour of it in the annual general meeting of the company held on 17th Sept 2016​. It was proposed that the borrowing powers of the Board be raised to Rs 7,000 crore in excess of the aggregate of paid-up share capital and free reserves of the company, apart from temporary loans obtained in ordinary course of business.

Earlier on September 12, 2013, shareholder of the Company at their 18th Annual General Meeting passed the special resolution enabling the Board of Directors to borrow money up to Rs 5000 crore in excess of the aggregate of paid-up share capital and free reserves of the Company, apart from temporary loans obtained in ordinary course of business. Since Sept 2013, the borrowing limit was not changed.

​​ Financial Performance ​:

​PNB Gilts standalone net profit rises 183.05% in the September 2016 quarter

Net profit of PNB Gilts rose 183.05% to Rs 70.14 crore in the quarter ended September 2016 as against Rs 24.78 crore during the previous quarter ended September 2015. Sales rose 69.73% to Rs 175.25 crore in the quarter ended September 2016 as against Rs 103.25 crore during the previous quarter ended September 2015.

PNB Gilts reports standalone net profit of Rs 19.37 crore in the June 2016 quarter

Net profit of PNB Gilts reported to Rs 19.37 crore in the quarter ended June 2016 as against net loss of Rs 3.24 crore during the previous quarter ended June 2015. Sales rose 38.23% to Rs 97.92 crore in the quarter ended June 2016 as against Rs 70.84 crore during the previous quarter ended June 2015.​

Saral Gyan Recommendation:

i) The recent announcement of banning Rs 500 and Rs 1000 currency notes by the Prime Minister Narendra Modi on November 8, 2016 will have certain repercussions in the banking and financial space. One of the impact could be that due to inflow of currencies into the system, Banks will have lot of deposits, there are few lending opportunities now and hence they could end up buying more and more of G-secs. This could lead to a fall in G-Sec rates, and PNB Gilts will be the direct beneficiary.

ii) On the back of a good monsoon and reduction in the cash / money supply in the system (due to the de-monetization event) CPI inflation numbers are expected to trend downwards in the next 1-2 quarters. This is due to a combination of demand being negatively affected and rural spending getting affected more. We believe there will significant reduction in the money supply in the economy and both CPI and WPI Inflation will start reducing in the coming one to two quarters. This in turn will give enough legroom to RBI to further reduce interest rates. It is expected that RBI may be in a position to reduce the repo rate (currently at 6.25%) by around 50 to 75 bps over the next 2 quarters. (1bp = 1/100 of 1 percent) which will give more growth opportunities to PNB Gilts going forward.

iii) The historical low of 10 year government bond yield was in January 2009 when it was quoted at 5.41 percent. This was in the aftermath of the late 2008 global market crisis. Hence even though the current levels of bond yield at 6.5% seem very low, they are still higher than the lows seen in 2009. Moreover, globally interest rates are at historical lows with many countries have 0 percent interest rates and some like Japan, Sweden, Switzerland are experimenting with negative interest rates. In such a scenario interest rates in India will also have to eventually decline.

iv) Whenever there is a selloff in global/local equity markets, investors rush to safe havens like G-sec and Gold. In such a scenario, due to high demand, the G-sec prices rise and yields fall. These developments will be positive for the bond market and the benchmark 10-year government bond yields have already started falling in Nov’16. Currently the 10 year bond is hovering around 6.5% levels and is expected to reduce further. Moreover, Indian banks will continue buying government debt as the outlook for public finances and inflation improves, offering them a better return than earnings from loans.

v) As more and more individuals head to banks to deposit their old currency, liquidity is expected to improve significantly and CASA balances of banks to show sharp rise. As against this rise in deposits, there will be few opportunities for banks to lend as credit demand is likely to remain muted for the next couple of quarters. Companies are by and large, underutilizing existing capacity, and consumer spending has reduced. Given this, a lot of money will chase government securities, thereby bringing down yield which will act as a catalyst in revenue growth and profitability of PNB Gilts.

vi) The company has registered sales CAGR of 25.4% and profit CAGR of 2.5% with ROE of 8.3% over last 5 years. The profit growth of PNB Gilts was muted mainly due to not so favourable conditions for G-sec market. However, considering declining interest rate cycle which is expected to continue over next 12 months with further drop in G-sec yields, we believe PNB Gilts will perform much better in coming quarters. PNB Gilts is the only listed player which will benefits out of the active trading that is likely to happen as banks are flush with cash and likely to park it with mutual funds, liquid funds and G-Sec funds.

vii) As of Sept’16, promoter’s shareholding in the company is at 74.07% without any change in holding since March 2004. The company has not pledged any shares, Institution shareholding in the company is at 1.46%.

viii) Management has rewarded shareholders by paying regular dividend since 2008 and also issued bonus share in ratio of 1:3 in 2013. The company has paid total dividend of Rs. 1.10 for FY15-16 and dividend yield at current share price is 2.6%. The company is maintaining healthy dividend payout of 34.2%.

ix) As per our estimates, PNB Gilts can deliver PAT of 198 crores for full financial year 2017-18, annualized EPS of Rs 11 with forward P/E ratio of 3.9X for FY16-17. Company’s valuation looks attractive considering strong growth prospects arising with lower interest rate cycle and increase in dividend yield with higher dividend payout expected for FY16-17.

x) On equity of Rs. 180.01 crore, the estimated annualized EPS for FY16-17 works out to Rs. 11 and the Book Value per share is Rs. 45.62. At current market price of Rs. 42.45, stock price to book value is 0.93.

Considering the fact that ideal conditions are getting evolved for a downtrend in interest rates over next 12 months which creates favourable conditions for a short-to medium term G-Sec and bond market, PNB Gilts is well placed to capitalize on trading and investment opportunities, it is recommended to “Buy” PNB Gilts Ltd at current market price of Rs. 42.45 for a target of 85 in six months timeframe
​ Buying Strategy:

​ 7​ ​5​ % at current market price of ​​42​ . ​​ 45​ ​ ​
​ 25​ % at price range of ​ ​ ​ ​35​ – ​ ​​38 ​ ​ (in case of correction in stock price in near term)

Gautam Baid

Gautam Baid, CFA, MBA,MS Finance, is the Portfolio Manager, Global Equities with Summit Global Investments based out of Bountiful, Utah. He is an experienced value investor with a passion for learning, reading & investing and a keen interest in behavioral finance. He has served for c.7 years at the Mumbai, London and Hong Kong offices of bulge bracket banks like Citigroup and Deutsche Bank where he received multiple promotions and served as a Supervisor of the Healthcare Banking team in his most recent designation within Deutsche Bank. In September 2016, Gautam’s passion, hard work & dedication towards the investing profession was formally recognized when he received a personal invitation to attend “Latticework 2016” at Harvard Club of New York – a confluence of 100 emerging value investors from across the world personally handpicked by Shai Dardashti and John Mihaljevic of the Manual of Ideas. At this event, Gautam received live training in value investing principles from investing legends like Howard Marks, Thomas Russo, Mohnish Pabrai and Guy Spier among many others. Gautam is fluent in both English and Hindi and has been actively investing in the Indian equity markets for the last 10 years. The family office portfolios of Indian stocks which he has been managing has delivered more than 120% returns on an average after all taxes & expenses since January 2014

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