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Decentro Secures ₹30 Crore to Power Fintech Innovation
Business, Equities, Market News, Markets - January 6, 2025

Credit Growth Expected to Slow as Provision Costs Rise

Credit Growth Expected to Slow as Provision Costs Rise

Recently, the credit rating agency ICRA, an affiliate of Moody’s Investor Services slashed credit growth rate outlook for the Indian banking sector. The newer revised outlook for credit growth predicts that the loan growth would witness a slight slowdown to 10.5% to 11% for the fiscal year ending March, 2025. The revision is a reduction from the previous forecast of 11.6% to 12.5%. Primarily, the cause behind this alteration includes a sharp decrease in the lending segment in particular sections such as unsecured retail borrowers and NBFCs. When it comes to NBFCs, the credit growth decelerated to 7.8% year-on-year when compared to 19% for the previous year. RBI in November, 2023, increased risk weights on bank credit to NBFCs, prompting these institutions to diversify the source of their funding. Therefore, as these specific segments carry higher yielding returns but at the same time carry even higher risks, banks have become increasingly cautious when it comes to their lending practices.

Lending or credit growth by Indian banks slowed for the fifth consecutive month in November, up 11.8% year-on-year from 16.5% in November 2023. Including the impact of the HDFC Bank merger, credit growth stood at 10.6% compared to around 21% for the previous year. This moderation in credit growth follows the actions of the Reserve Bank of India to curb excessive lending on unsecured loans. Credit growth had also slowed in the previous months (October, July, August and September). Despite this slowdown, banks continue to report double-digit growth, supported by high retail demand and urban infrastructure. Furthermore, banks are now focused on improving their already high credit-to-deposit (CD) ratio. ICRA has stated that the loan growth will further decrease to 9.7% to 10.3% in the fiscal year ending March, 2026. This reduction would be a result of trimming CD ratios by the banks and the alteration in the implementation of changes in the liquidity coverage ratio framework which would kick in next fiscal fiscal year.

Bank margins would take a hit with consistently higher interest rates and a gradual slowdown in credit growth, said Sachin Sachdev from ICRA. As the primary source of bank margins are through disbursing of personal loan and other unsecured loan products, a significant reduction in the volume of such loans would definitely impact overall profitability of the bank. Further if the interest rates continue to decline in the future, banks could suffer with stagnant profit figures as the range between the lending and borrowing rate would grow narrower.

ICRA further stated that bank margins would be impacted by rate cuts which accelerate yield transmission. On the other hand, banks’ return on asset (RoA) is expected to stay in good health lying in the range of 1.1% to 1.2% for FY2026 and 1.2% to 1.3% for FY2025 when compared with 1.3% for FY2024. Additionally, with slower credit growth, banks would witness enhancement in loss absorption capacity with bolstering growth needs. Thus, banks would lend less aggressively and improve their reverses and manage high risks associated with high risk lending segments.

Banks’ balance sheets would be further stretched by the impact of the implementation of expected credit loss (ECL) framework and increased provision for medium term project financing. The ECL framework would require banks to set aside provisions for bad loans way earlier than they currently do. This would significantly improve transparency and risk management but at the same time increases financial burden on banks for short-term. Additionally, banks would be required to set aside higher provisions for project finance, particularly in infrastructure and large-scale projects. As a result, these provisions put pressure on banks’ financial resources, affecting the overall profitability including bank margins.

To handle and offset these challenges in the banking space, Indian banks are turning to the bond market to raise funds. Sachdev further elaborated that due to difficulties in attracting deposits, banks are now shifting strategies for fundraising and are expected to issue bonds at an increasing rate in the near future. Sighting this, banks are expected to surpass their previous high and could touch Rs. 1.3 trillion for FY2025 when compared to Rs. 1.02 trillion for FY2024.

Coming to the retail space, with the increasing stress, the fresh slippages by banks are on the rise while recovering are expected to slow down. The gross fresh NPA generation by banks is expected to increase slightly to 1.6% in FY2025 from 1.5% in FY2024 which still remains way lower than previous years. Eyeing this situation, gross NPAs would rise and correlatively GNPA ratio would also rise in FY2026.

Lastly, ICRA emphasized that although NPA generation rate is set to pick up, credit costs would likely only rise slightly due to lower legacy net NPAs. To improve banks’ bottomline, with higher current provision coverage ratio (PCR), banks would have more room to lower incremental provisions. Coming to numbers, credit expenses account for upto 21% to 23% of the operating profit of the banking sector in FY2025 and 27% to 30% in FY2026

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Business, Equities, Market News, Markets - January 3, 2025

Resilient Banks Face Cost Challenges Beyond Technology

Resilient Banks Face Cost Challenges Beyond Technology

Banks are the cornerstone of the financial sector at the national as well as global level. To maintain stability, banks need to maintain liquidity and stable profit margins. Currently Indian banks are facing the issue of profitability margins and operational costs. In 2025, Indian banks are expecting the Reserve Bank of India to issue final guidelines on the number of subjects related to compliance. For this, the draft has already been circulated by the RBI. The subjects taken into consideration range from higher provisioning on project finance, higher run-off rates for liquidity coverage ratio (LCR), climate-related financial risks, and focus on credit management models. The critical issue banks face is credit risk due to Non-Performing Assets (NPAs). The RBI is also going to address this issue and also other risks that banks often faced affecting their books. The Central Bank also focuses on issuing guidelines related to restricting banks and their subsidiaries from performing overlapping businesses.

RBI focusing on these different subjects related to Banking function indicates that the year 2025 would be a challenging year for Indian Banks. It will lead to a rise in compliances and its cost. Also compression in margins due to stagnant deposit growth, competition for fee business and issue of operational cost. Despite progress in technology in the banking sector, it is difficult to lower operating costs. Resulting overall pressure on profit margins. Aso if the economic growth remains stagnant, it will affect other incomes of banks such as guarantees and commissions.

According to banking analysts, the banks have good capital structure and the NPAs’ share is at decadal low. Also they hope that the banking and financial institutions will not face any kind of severe shocks in this year. Despite this postive situation, the increasing number of Cyber frauds will keep the banks in constant tension.

The Indian banks are already facing the issue of less net interest margins (NIM). The NIM is the difference between the interest payment on deposits (cost of funds) and interest charged to borrowers. NIM also acts as a key indicator of a bank’s earnings. Last year, the NIM was narrowed down by 50 bps. According to RBI’s latest Trend and Progress of Banking Report, banks’ earnings based on NIM as key indicator was at 3.5 percent at the end of September 2024 as compared to 4.1 percent in the previous year for all the commercial banks. The guidelines of RBI that will be implemented in 2025 will likely lead to an increase in regulated banking structure as it will aim at making banks financially strong and more accountable and transparent. Despite this, it will certainly affect the performance of the banks. As the pressure on profitability margins is increasing due to rising credit cost and capital requirements in high-yield sectors such as unsecured loans. It could lead to banks to shift to more secured retail and corporate lending. The capital requirements are high in unsecured loans due to lack of collateral, higher risk of defaults, and has to follow regulatory requirements stated by RBI.

Increased use of technology in banking functions such as implementation of KYC norms, block chains for smooth transactions and use of technology for giving other customer services is observed in the banking sector. The aim of using technology was not only to make the banking process hassle-free for customers but also to lower the operational costs banks faced while performing banking activities. Despite the increased use of technology, the banks are expected to face high operational costs due to technology failing to replace humans as resources. Reason for this is that advanced technologies are complex and expensive in nature. It requires not only to invest in infrastructure but also to employ skilled professionals to manage these technologies. Also implementation of technologies need extensive training of the employees which comes with a cost. The functions like deciding the creditworthiness of the borrowers and amount of loan and interest rate to be given cannot be solely decided on the basis of data analyzed. It needs human perspective and strategies. Also many customers still prefer human interactions in terms of grievances and help while going through banking services and its products.

According to the report of RBI, the banks’ operating expenses have increased by Rs. 5.9 lakh crore in the fiscal year 2024 which is 20 percent more compared to the previous year. Also strengthening of regulatory compliance will lead to increase in cost of non-compliance. This will lead to an increase in reputational and business loss more than the past.

Apart from this, banks have to focus on their lending channels. In sectors, it faces a slow down. While in some industries such as chemical and chemical products, infrastructure, petroleum, coal products and nuclear fuels faced increased growth. Overall increase in loans to industry rose by 8.1 percent Y-o-Y in November 2024 compared to the previous year of growth of only 5.5 percent. Also, the retail sector recorded growth of 16.3 percent compared to 18.7 percent in the previous year due to a decline in growth in unsecured loans, vehicle loans and credit card outstanding. According to the RBI, housing loans, which has the largest share in retail lending, observed accelerated growth. Indicating that technology alone cannot resolve all the concerns of the banks.

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Business, Equities, Market News, Markets - December 19, 2024

Shriram Finance's $1.27 Billion ECB Deal Sets Record

Shriram Finance’s $1.27 Billion ECB Deal Sets Record

Shriram Finance, India’s second-largest non-banking financial company (NBFC), is on the verge of securing a landmark $1.27 billion external commercial borrowing (ECB) deal. This multi-tranche, multi-currency loan is poised to become the largest such transaction by any Indian NBFC. The deal highlights Shriram Finance’s strategic approach to diversifying its funding sources and reflects the growing importance of foreign currency borrowings in the current regulatory environment.

Deal Overview
The $1.27 billion loan comprises multiple tranches with maturities ranging from three to five years. Leading global financial institutions are participating in this monumental deal, including HSBC (UK), MUFG and SMBC (Japan), International Finance Corporation (IFC) from the World Bank Group, DBS Bank (Singapore), BNP Paribas (France), Standard Chartered Bank, and First Abu Dhabi Bank.

According to insiders, the largest component of the deal is a three-year loan valued at $900 million. This triple-currency tranche includes $600 million denominated in US dollars, with the remaining amount split almost equally between dirhams and euros. Additionally, MUFG has provided a three-and-a-half-year bilateral loan of $275 million, while IFC has contributed $10 million via a five-year loan. The loans are expected to be syndicated further among other global banks by early 2025.

Interest Rates and Cost of Borrowing
The $900-million three-year tranche has been priced at 200 basis points (bps) over the three-month secured overnight financing rate (SOFR), which is currently trading at 4.76%. This implies an effective interest rate of approximately 6.76%. Similarly, MUFG’s $275 million loan is priced at 205 bps above SOFR, resulting in a cost of 6.81%. IFC’s five-year loan is the most expensive, priced at 210 bps over SOFR, equating to an interest rate of 6.86%.

These rates reflect the competitiveness of the deal, especially given the global interest rate environment. For Shriram Finance, accessing foreign currency loans at these rates not only provides cost-effective capital but also ensures longer tenures compared to domestic borrowings.

Strategic Implications
The significance of this deal extends beyond its record-breaking size. It underscores the increasing reliance of Indian NBFCs on external financing in the wake of tightened domestic regulations. The Reserve Bank of India (RBI) has recently expressed concerns over the rising exposure of banks to the NBFC sector. Consequently, bank funding for NBFCs has dried up, forcing these institutions to explore alternative avenues such as ECBs.

Foreign currency borrowings present a viable solution for NBFCs, offering several advantages:
Diversification of Funding Sources: By tapping into international markets, NBFCs can reduce their dependency on domestic banks and mutual funds.

Attractive Pricing: Given the competitive interest rates, ECBs often prove more cost-effective than domestic borrowings.

Longer Maturities: Foreign loans typically come with longer tenures, which align better with the asset-liability management requirements of NBFCs.

Umesh Revankar, Executive Vice Chairman of Shriram Finance, confirmed the company’s plans, emphasizing that the funds will be deployed to support its lending business. “This deal helps diversify our funding sources and strengthens our liquidity position,” he said.

Utilization of Funds
Shriram Finance is primarily known for its commercial vehicle (CV) financing business. However, the company is actively working to diversify its loan book. As of September 2024, CVs and passenger vehicles accounted for 67% of its Rs 2.33 lakh crore portfolio. The remaining portfolio comprises loans to micro, small, and medium enterprises (MSMEs), housing finance, and other segments.

The proceeds from the ECB deal will be channeled toward expanding the company’s lending operations, with a focus on increasing its exposure to MSMEs. This strategic shift aligns with Shriram’s long-term vision of reducing concentration risk and capturing growth opportunities in underpenetrated markets.

Market Context
The timing of this deal is significant. Over the past year, the global interest rate environment has been volatile, with central banks across the world tightening monetary policies to combat inflation. Despite this, Shriram Finance has managed to secure competitive rates, demonstrating its strong credit profile and the confidence of international lenders.

In the Indian context, the RBI’s regulatory tightening has prompted NBFCs to reassess their funding strategies. ECBs have emerged as an attractive alternative, offering liquidity at competitive rates. However, such borrowings also come with risks, including currency fluctuations and interest rate volatility. Shriram Finance’s decision to opt for a multi-currency structure mitigates some of these risks by diversifying its exposure across different currencies.

Challenges and Outlook
While the deal marks a significant milestone for Shriram Finance, it is not without challenges. Currency risks remain a critical concern, especially given the volatility in exchange rates. The company’s ability to effectively hedge these risks will determine the net cost of borrowing. Additionally, the rising cost of capital globally could impact profitability margins in the long run.

On the operational front, the success of Shriram’s diversification strategy will depend on its ability to scale its MSME lending portfolio while maintaining asset quality. The MSME sector, though lucrative, is inherently risky due to its vulnerability to economic cycles.

Despite these challenges, the outlook for Shriram Finance remains positive. The company’s strong track record in the CV financing space, combined with its proactive approach to funding and diversification, positions it well to navigate the evolving landscape.

Conclusion
Shriram Finance’s $1.27 billion ECB deal sets a new benchmark for Indian NBFCs. It reflects the company’s robust financial health, its commitment to innovation, and its ability to adapt to changing market dynamics. By securing this funding, Shriram Finance is not only addressing immediate liquidity needs but also laying the groundwork for sustainable growth. As the company diversifies its loan book and strengthens its presence in the MSME segment, it is poised to further consolidate its position as a leader in the Indian financial services industry.

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Business, Equities, Expert Views, Investor Forum, Market News, Markets, Research, Research Reports, Result Updates - October 4, 2024

NBFC Loan Sanctions Q1 FY2024: Gold Loans Dominate Amid Slowdown in Unsecured Personal Loans

NBFC Loan Sanctions Q1 FY2024: Gold Loans Dominate Amid Slowdown in Unsecured Personal Loans

The latest data from the Finance Industry Development Council (FIDC) reveals a significant shift in the lending practices of Non-Banking Financial Companies (NBFCs) for the first quarter of FY2024. Gold loans have emerged as the dominant loan category, growing by 26% year-on-year to ₹79,218 crore. This rise in gold loan sanctions comes as NBFCs slowed their lending towards unsecured personal loans, which declined by 4% year-on-year due to the Reserve Bank of India’s (RBI) tightening regulations on unsecured credit.

Key Highlights:
Surge in Gold Loans: Gold loans accounted for the largest share of loan sanctions by NBFCs, reflecting their increasing preference for secured lending amid a changing regulatory landscape. The 26% growth from ₹63,495 crore last year to ₹79,218 crore in Q1 FY2024 underscores the sector’s focus on gold-backed financing.

Decline in Personal Loans: Unsecured personal loans, previously a dominant segment, witnessed a decline of 4% during the same period. This drop can be attributed to the RBI’s November 2023 decision to increase the risk weight on unsecured consumer credit from 100% to 125%, effectively raising the cost of capital for NBFCs extending such loans. The higher risk weight led to a shift in strategy as NBFCs redirected their focus toward secured lending products like gold loans, which offer better risk-adjusted returns.

RBI’s Regulatory Scrutiny: The RBI has increased its vigilance on NBFCs, particularly regarding gold lending practices. During its onsite examinations, the central bank observed several irregularities, including the use of third-party agents for loan sourcing, valuation practices without customer presence, insufficient monitoring of loan end-use, and lack of transparency in gold auctions during defaults. In response, the RBI issued a stern warning, mandating corrective measures within three months to avoid potential regulatory action.

Rising Property and Housing Loans: Property loans experienced a healthy growth of 21% YoY, now ranking as the fourth-largest loan category sanctioned by NBFCs. Housing loans also continue to hold a significant share of the total NBFC loan portfolio. However, unsecured business loans, like personal loans, have seen a deceleration, influenced by the same risk weight increases implemented by the RBI.

Shift Towards Secured Lending: The regulatory changes have made unsecured lending more expensive for NBFCs, prompting them to reallocate capital towards safer, secured lending options such as gold loans. The RBI’s sectoral deployment data supports this trend, showing that the gold loan portfolio of banks surged by 41% in August 2023, becoming the second-fastest-growing loan segment after renewable energy projects.

Implications for NBFCs:
Focus on High-Yield Secured Loans: The sharp rise in gold loans highlights a strategic pivot by NBFCs toward high-yielding but secured assets. Gold loans, backed by collateral, provide a safer lending avenue with attractive yields, making them a preferred choice in the current regulatory environment.

Cost of Capital and Credit Risk: With increased risk weights on unsecured loans, NBFCs face a higher cost of capital in those segments, reducing their appetite for such products. Consequently, gold loans have emerged as a favorable alternative, offering a secured product with relatively lower credit risk.

Potential Regulatory Risks: While gold loans present a lucrative opportunity, NBFCs must address the regulatory concerns raised by the RBI. Non-compliance with corrective measures could lead to stricter regulatory oversight, higher penalties, or restrictions on lending, impacting overall business operations.

Sectoral Diversification: NBFCs are likely to continue diversifying their loan portfolios, focusing on secured lending products such as gold and property loans, while cautiously navigating the unsecured credit landscape.

Conclusion:
The gold loan segment is expected to remain a growth driver for NBFCs in the near term, as the regulatory environment continues to favor secured lending. However, NBFCs will need to remain vigilant in complying with RBI’s guidelines to avoid regulatory backlash, while also exploring opportunities in other secured lending sectors such as housing and property loans to balance their portfolios effectively.

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