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These NCDs are attractive for investors who have been keeping money in bank FDs, but even the best non-banking finance companies can be shaken if there is continued economic slowdown. The slightly higher yield may be a cause for regret then
We have recently seen several non-banking finance companies (NBFCs) make a beeline to tap retail investors with non-convertible debentures (NCDs). Risk-averse investors can now hope to earn 11% to 12% interest a year from the NCDs offered by these companies. At least three NBFCs have come out with retail NCD issues during the current financial year to diversify their funding sources.
Shriram Transport Finance Company (STFC), a Reserve Bank of India-registered deposit-taking NBFC, was the first to hit the market on 27th June, offering a maximum of 11.6% interest to investors who invest less than Rs5 lakh for five years. Higher net-worth investors will, however, get a lower interest rate of between 11% and 11.35% depending on the investment tenure.
Shriram City Union Finance Limited (Shriram City), is entering the debt capital market to raise Rs375 crore through a public issue of secured non-convertible debentures of the face value of Rs1,000 each. It has an option to retain oversubscription up to Rs375 crore for issuance of additional NCDs aggregating to Rs750 crore. The debentures would have three-year and five-year maturity options and the interest rates under different categories would range from 11.6% to 12.5%. The issue is open from 11th August to 27th August.
India Infoline Investment Services Limited (IIISL), an NBFC subsidiary of India Infoline Limited (IIFL) has come out with an issue on 4th August of Secured Redeemable NCDs of the face-value of Rs1,000 each to aggregate Rs375 crore, with an option to retain over-subscription of Rs375 crore, making it an aggregate total Rs750 crore issue. The NCD Issue has 3 investment options and yield on redemption of up to 11.90% per annum. The NCDs will be listed on the National Stock Exchange (NSE) and the Bombay Stock Exchange (BSE).
Religare Enterprises, a diversified finance firm, Muthoot Finance which lends against gold are among firms that have lined up retail bond issues which may yield more than 12% compounded returns with varying tenures of 3-5 years. Some of them are secured, and some of them are not.
Yield-chasing investors ensured that Shriram Transport Finance's 11.6% retail bond issue was a success with bids three times the offer within a few hours of opening. This success has prompted many to line up such issues, after the RBI raised policy rates for the 11th time with a shocking 50 basis points to 8%. These bonds come as a relief to investors who have been losing money in bank fixed deposits due to negative real interest rates. But there is no free lunch in financial markets. For the higher returns you have to take higher risk as well.
Remember, the NBFCs are offering retail bonds because they are restricted from borrowing from banks. RBI is concerned about the end use of bank lending to NBFCs. When money is lent on the balance sheet, banks don't know what the company does with that money nor do they have the capability to check the end use. Banks, typically, offered 9%-10% for NBFCs till early this year for tenures of 3-5 years, when the RBI was still in the accommodative mode, but interest rates have risen by more than 100 basis points since then.
One of the main reasons NBFCs are able to provide such high returns to the investor is that they don't suffer from the constraint of priority sector lending which banks have to adhere to. These companies are usually engaged in lending for equipment leasing, hire-purchase and investment. The returns earned from such lending are usually very high and thus they managed to give their investors high return.
For companies, it may be the right thing to do when interest rates are rising. They benefit from a stable source of long-term funding without much hassle unlike institutional lenders who constantly monitor and question them. They could benefit from swapping these loans even when the rates fall. But retail investors must remember that higher yields are coming from companies that do not carry a high credit rating. Companies like India Infoline are relatively new to lending compared to a Shriram group entity and therefore there are risks that it will not asses the creditworthiness of its borrowers properly while lending. Remember, all this discussion is relevant if the economy is in a steady state. If the economic conditions worsen sharply, even the best NBFCs would have loan losses on their hand. Technically speaking you can put only a small portion of your fixed income in bonds but then, that would not make much of a difference to your overall yield (about 2% more). On the other hand, there are excellent bonds like that of TISCO perpetual which offer 11% plus yield with much lower risk, which we have written about earlier.
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