Indian NBFIs' Buoyant Risk Appetites Could Carry Long-term Risks: Fitch
Moneylife Digital Team 27 April 2023
Indian non-banking financial institutions’ (NBFIs) upcoming results for the financial year ended March 2023 (FY22-23) are likely to underscore continued appetite for brisk credit growth, says Fitch Ratings. 
This, the rating agency says, should be supported by resilient domestic activity, despite slowing global growth. However, aggressive credit growth and increased risky-asset exposure could raise asset quality challenges in the longer term, it added.
According to Fitch, risk appetites are likely to stay high as Indian NBFIs target significantly higher loan growth than in the past three years. "Sector loan growth slowed to a compounded annual growth rate (CAGR) of 6.9% over FY19-FY22 due to the 2018 Infrastructure Leasing & Financial Services Ltd (IL&FS) credit event and COVID-19 pandemic, compared with 21.8% over FY16-FY19."
Aggregate loan growth of large Fitch-monitored NBFIs rebounded to 13.3% year-on-year (y-o-y) by end-December 2022, and major NBFIs’ target increased loan disbursements. Prominent names, such as Bajaj Finance Ltd, Mahindra and Mahindra Financial Services Ltd and Cholamandalam Investment Finance Ltd, plan for loan growth of above 25% in the medium term.
Appetites for riskier but higher-yielding segments are also rising, the rating agency says, adding, small and mid-sized business loans expanded by 46% y-o-y at end-December 2022 for large Fitch-tracked NBFIs. 
Unsecured loans are also growing rapidly - for instance, non-bank microfinance loans grew 43% y-o-y. "Similarly, we expect housing finance companies (HFCs) to turn to riskier real estate-backed commercial loans as competition from banks for home loans intensifies. Aggressive consumer lending growth by NBFIs, especially in less-familiar locales to meet growth ambitions, could also stretch risk controls," it added.
According to Fitch, rapid growth and concentrated exposure in cyclical, long-tenor products, such as small and medium enterprises (SME) loans-against-property and large-ticket commercial real-estate loans, could pose asset-quality and liquidity risks for lenders, unless mitigated by disciplined risk controls. 
It says, "The lengthier seasoning profile of such loans can mask the accumulation of credit risks, and it is often costlier and sometimes challenging to secure long-term funding to back these loans. Aggressive commercial real-estate lending and mismatched funding tenors on such portfolios ultimately caused a number of NBFI failures during the 2018-2019 liquidity crunch."
"We believe more NBFIs are pursuing higher-yielding loans to offset greater pressure on funding costs and net interest margins. Borrowing costs have increased significantly with bond yields for NBFIs rated 'AAA' and 'AA' on the domestic scale climbing by 180bp-200bp y-o-y by March 2023. Bank borrowing costs are rising similarly. Meanwhile, secured retail products face intense competition from banks, which limits NBFIs' ability to pass on the higher funding costs," Fitch says.
According to the report, gold-backed lenders are also expanding faster in non-gold products amid rising competition for gold loans. Non-gold products grew by 33% y-o-y in December 2022 for Manappuram Finance Ltd and 25% for Muthoot Finance Ltd, outpacing overall portfolio growth. Manappuram's greater appetite for non-gold loans, about 42% of its total loans, partly explains its lower rating relative to Muthoot at 12%.
Leverage is likely to rise as loan growth accelerates, partly reversing the de-gearing observed since the IL&FS event, the rating agency says. Aggregate debt and equity of Fitch-monitored large NBFIs fell to 4.3 times by the first half of FY22-23 (H1FY22-23) compared to 5.7 times during FY18-19. "We believe HFCs are more likely to carry higher leverage as they benefit from lower risk-weights on certain housing loans under the regulatory capital framework, allowing them to gear up their equity base."
Market leaders and Fitch's higher-rated entities should maintain better credit standards and risk controls than smaller peers, the rating agency says, adding, "Their stronger franchises should win them sufficient business while retaining better pricing and risk discipline. Still, aggressive growth could pressure lenders to take inordinate risks, which could weaken asset quality and credit profiles when the economic cycle turns."
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