Multi Baggers

Indian Overseas Bank (IOB)

FII's ignoring the valuation matrix we expect it to be the next Apollo Tyre. Risk reward 4 for 30

Important Triggers

• Fundamentally the cheapest stock available in the banking space:
• Management will monetize NPA's following others and this will reduce the balance sheet issue
• Company recently raised 400 crores by issuing shares to LIC thus improving capital requirements

Fundamental Perspective:
The company has branch network of 3250 against Market capitalization of 5500 crores thus valuing it at a meager 1.7 crore per branch. If banking has to rally than PSU banks has to participate. The valuation gap between PSU Banks and Private Sector banks has become three times. Deservedly so, but some banks are ignored despite change of game. The entire issue of NPA is overdone for small PSU Banks likes of Vijaya Bank and IOB. In-fact with economic recovery these banks will be able to improve on ratios and now with capital adequacy favoring them, they will be first to see faster re-rating and significantly get re-rated based on new developments.

Quantitative perspective:
The stock used to trade at 1.3 times P/B avg median, and now is trading at .44 to its price to book value adjusted. Historically right from PNB to SBI to Bank of Baroda all PSU banks have made rounded bottom for a multi-year bull run around P/B of 0.4 to 0.5 times. Similar pattern is visible in IOB. A simple arithmetic explanation for the risk one bears. At .4 price to book over next quarter the worst the stock will trade is around 42-43 rs. During the same period if one writes out of money call of 55 at 50p he earns 1 percent Premium inflow also the company pays a dividend of Rs. 3 average of last 7 years. The bank has seen 2007-08 world crisis the slow economy growth and bad phase of tepid growth and bad history of NPA and is available at the price of 2006.
        
Now management is focusing on NPA recovery and will follow suit likes of its peers of selling a bundle of bad assets to Bad Asset buyers/Asset Reconstruction companies. This will have double impact on the balance sheet. Bad assets getting monetized and recent capital infusion by LIC to further instigate bank's growth thus improving the so called NPA ratios and other ratios which most analysts are focusing on.

It will be inappropriate to compare apple with oranges, but take a closer look to SBIN and IOB ratios. And compare the Price to Book of IOB 0.44 to SBIN 1.12 times. The difference has to be there but in India even small bank is too big to fail in such case if IOB gets re-rated even to 0.75 times Price to Book the stock can easily adjust for 84 Rs a piece before next year. Perhaps that will discount the SBI IOB Price to Book difference and IOB is poised for stronger improvement to many of its peers due to capital infusion and management focus on recovery. PNB rallied almost 70 percent from lows on account of asset nos. improving slightly. Similar trends will be visible in small cap PSU banks and here is the option hedge formula on IOB thus making it a low risk high return strategy.

Buy IOB one lot equivalent in cash at 48 sell 55 call option at 0.7 Rs thus taking inflow of the premium. Use the strategy till stock does-not cross 53. Once 53 it crosses it starts trading above 200 dma this is possible on above scenarios and from there the interest of institutions will start flowing. Remember it has 3 Rs dividend attached for so many years expecting similar payouts in future too, making it available at dividend yield of 6% appx. @cmp. Consider this exercise for over a year the worst one makes is Rs 10 (dividend + premium inflow) even if stock does-not make a move which is approx. 20% and you are riding on the prospects of improving economy so it's one of the most favorable stock at current levels. Future and Options is only for individuals who understand the risks, we are advising either of the strategy going long fundamentally and/or combining the options strategy provided individuals have capacity to understand and mitigate the risks.