Nomura upgrades Kotak Mahindra Bank, calls ICICI Bank preferred compounder. Here's why

Core View - Nomura has upgraded Kotak Mahindra Bank to "Buy" and positioned it as the top pick among Indian banks, while ICICI Bank is labeled as the "preferred compounder" in the sector, amid a tightening liquidity backdrop and rising funding costs [1][18]. Credit Growth and Liquidity - System credit growth has improved from 10% to 14.9% year-on-year since mid-2025, but this growth is deemed unsustainable as it relies on liquidity buffers rather than strong deposit mobilization, resulting in a credit-deposit ratio of 82%, above the 10-year average of 75% [2][18]. - Nomura warns that liquidity-funded growth has a ceiling, and sustaining credit growth will necessitate an increase in deposit growth, which is currently hindered by low government spending and foreign exchange inflows [3][18]. Net Interest Margin (NIM) Estimates - NIM estimates have been cut across banks due to a structural decline in system CASA ratios, which have dropped 700 basis points from FY22 peak to 37.9%, leading to a delayed recovery in NIM expected in the second half of FY27 [6][18]. Kotak Mahindra Bank Analysis - Kotak Mahindra Bank is highlighted for its strong liquidity position, with a liquidity coverage ratio (LCR) of 135%, allowing for potential loan book growth of 4.8% from liquidity release alone [7][18]. - The bank's funding structure is robust, with retail deposits making up 66% of funding, a low level of short-tenor wholesale funding, a CASA ratio of 41%, and borrowings at just 5% of the funding mix, making it less vulnerable to rising wholesale rates [8][18]. - Kotak is trading at approximately 1.5 times FY27 forecast core bank book value, which is considered inexpensive, with projected loan and deposit growth of 16-17% and core operating profit and earnings CAGR of 17-18% over FY26-28 [9][10]. ICICI Bank Analysis - ICICI Bank is characterized as a steady compounding engine with a leading profitability profile, featuring a healthy LCR of 125% and a strong liability franchise with a CASA ratio of about 40% and borrowings around 6% of funding [11][19]. - The expected loan CAGR for ICICI is 13% and EPS CAGR is 15% over FY26-28, supported by strong core profitability, with a target price set at ₹1,535 based on a valuation of 2.3 times Dec-27F BVPS [19]. - Despite NIM estimates being cut by 5-7 basis points for FY27-28, ICICI's forecasts maintain a high-return profile with RoE around 16% and RoA at 2.2-2.3% over the next three years [12][19]. Comparative Analysis - IndusInd Bank, Yes Bank, Axis Bank, and HDFC Bank are flagged as consistently lagging in liability metrics, making their NIM trajectories more vulnerable in a rising wholesale rate environment [14][19]. - Although Axis Bank shows the strongest modeled EPS CAGR of 24% in FY26-28, ICICI is still viewed as the more durable "quality compounder" among large private banks [15][19]. Valuation Reset - Nomura notes a significant valuation reset for private banks, with Kotak's price-to-book ratio dropping from an average of 3.6 times to about 1.5 times since FY22, while PSU banks have seen a rerating from earlier lows [16][19]. - Following NIM revisions, Nomura's earnings estimates are below consensus for most banks, but the reset, combined with structural advantages in liquidity and liabilities, creates a favorable valuation setup for Kotak and ICICI, which can achieve healthy growth without heavy reliance on expensive wholesale funding [17][19].