India: Facing Strong Headwinds...Goldman Sachs

Cyclical headwinds due to worsening macro; stay selective

The Indian financial sector is facing cyclical headwinds due to a worsening outlook for inflation in the near term and a subsequent tight monetary policy regime, in our view.
We believe this will lead to slower growth in assets and earnings than expected by the market. Our coverage universe is down 30% from its 52-week high, underperforming
the broad market index (down 21% from its 52-week high).However, we believe the long-term structural growth story for the sector remains intact and recommend a selective
approach over the near term.

Strong, sustainable earnings growth visibility the key driver

A tighter monetary policy outlook in the near term is likely to affect consensus expectations for loan growth and NIM. We see potential for consensus to cut earnings estimates
as we believe it has not yet factored in the implications of the ongoing monetary policy tightening fully by way of moderation in loan growth; and squeeze on lending margins—
empirical data shows that lending margins come under pressure during tighter monetary policy conditions.

Our estimates are 8% and 7% below consensus for 2008E and 2009E,
respectively. The gap between GS and consensus estimates has begun to narrow; we expect material downward revision to consensus expectations over the next 3 months.
We see headwinds to the price performance of Indian financials given slower growth, a tighter monetary policy, downward revision in consensus expectations and valuations that
are still at the higher end when compared with peers in the region. We believe strong and sustainable earnings growth visibility alone could drive stock performance.

Axis Bank, HDFC are our top picks; maintain Sell on IBFSL

For us to be outright positive on the sector, stability in macro economic conditions should be restored. In our view, macro economic conditions are far from being favorable, at present.
Until such time, our bias is towards stocks that will perform well despite the current tough operating environment. In our view, Axis Bank (AXBK.BO; Buy) and HDFC (HDFC.BO; Buy)
fits into this criterion. We see meaningful potential upside to our Camelot-based 12-month target price. For others, we continue to expect the financial sector to trade in a range, we
recommend buying stocks at the suggested entry level and selling them closer to our target prices.

Downside risk likely if inflation threat persists

Inflation remains a key risk to our expectations. We expect RBI to maintain a tight policy stance in the near term. If inflation concerns persist, we believe there could be strong policy action leading to further downward revision in loan growth expectations. The upside risk to market expectations would arise if inflation concerns abate quickly and banks are able to raise lending rates without affecting loan growth prospects we attribute a low probability to this event.