DHFL) can vouch for it — all that matters in business is perception.
The bitter truth dawned after DHFL was sucked into wider systematic liquidity pressures just last month, on the back of weak currency and rising oil prices, compounded by bad news originating from IL&FS and money market mutual funds (MFs) battling their own redemption pressures.
When IL&FS tripped up and defaulted on payments to Sidbi at Augustend, the non-banking financial companies/housing finance companies (NBFC/HFC) industry, with an assets book of Rs 28.4 lakh crore – did not expect the perfect storm so soon. But the news of DSP Mutual Fund selling DHFL commercial papers (CPs) at a steep discount triggered a panic sell-off across HFC and NBFC stocks. Within a few hours of trade, DHFL’s stock was radioactive, pounded down 60%.
“After IL&FS, investors are turning risk-averse,” says Anuj Jayaraman, a hedge fund manager in Hong Kong. “Even after HFCs — including Indiabulls and Dewan — came out to soothe nerves, investors remained circumspect. Both ruled out any exposure to the hydraheaded infrastructure lending company and clarified there has been no default on repayments, but the damage was done.”
“What is it we don’t know but DSP did, was a thought that bothered us all. There was no trust left in credit rating agencies that had given AAA ratings to IL&FS before overnight labelling it as junk,” Jayaraman recalls. “Money market mutual funds tried to infuse liquidity by placing other papers in the market but it made people even more nervous … Not every NBFC is an HDFC or a Bajaj; neither does it have access to emergency liquidity.”
A fortnight on, the ripples can still be felt. Chief executives of top NBFCs are hardselling solvency and good management. A healthy chunk of their day is spent calming nerves of corporate treasury heads and debt fund managers, assuring timely repayment. “The market is worried. We’re trying to quell concerns of our lenders. We need corporates and MFs to fund our papers,” says the CEO of a midsized NBFC.
“The NBFC sector is a victim of rumourmongering,” rues Nirmal Jain, chairman, IIFL Group. But for many, this is yet another example of bodies floating up with the tide after years of unbridled growth. Rashesh Shah, chief executive, Edelweiss Group, admits, “Although showing tentative signs of easing in the last few days, NBFCs are going to see growth contraction in the next few quarters. We are focusing more on quality and liquidity of assets than on expanding it the way we did in the past.”
BURNISHING BALANCE SHEETS
The regulators and government have already stepped in, IL&FS’ board and management sacked and a new team put in place and the sovereign weighing in with an implicit guarantee. Both National Housing Bank (NHB) and SBI have been marshalled for infusing Rs 51,000 crore funding lines to refinance HFCs and cherry-pick loan portfolios as most banks are not willing to lend to NBFCs and fund their asset-liability mismatch (ALM).
“This will help us meet our priority sector target and also benefit some NBFCs that are looking for funds. With 66% credit: deposit ratio, we have sufficient liquidity and capital; so, this is a good opportunity for us,” says Prashant Kumar, chief financial officer, SBI. But that may still not be enough, feels Saurabh Mukherjea, founder, Marcellus Investment Managers, saying, “NBFCs may find it difficult to get adequate funding in days to come. Banks and MFs would be reluctant to lend to them for some time.” That means subdued growth.
Several non-bank lenders, including HFCs, have slowed down loan disbursement and are deferring high-value loans. For mainline companies, disbursements dipped 15-25%, as per an industry estimate. Almost all senior managers are already chalking out strategies for the grind ahead.
On their whiteboards are numbers, acronyms and pie-charts on how to conserve capital, arrest growth, slacken-off fresh disbursals and take eyes off the ‘non-cores.’ “Banks stepping into buy portfolios would help; this off-balance sheet funding would help stressed NBFCs to set their ALM right. Stronger ones can even use this route to disburse fresh loans,” suggests R Sridhar, chief executive, Indostar, an NBFC providing loans to SMEs.
A few NBFCs managed to raise money in the nick of time. For instance, Tata Capital Financial Services, raised Rs 3,373 crore via a non-convertible debenture (NCD) issuance at varying coupon rates between 8.7 and 9.1. But lower rated companies are the most vulnerable ahead of peak festive demand, giving up business to create adequate “liquidity buffers”.
Even the best in the class are now raising fresh funds almost 250 basis points higher than what they paid a year ago. A higher cost of funding would hit profit margins of NBFCs – if they decide not to pass on the ‘rate burden’ to borrowers. “We’re conscious of rate hikes and the impact it could have on NPAs,” says Ramesh Iyer, managing director, Mahindra & Mahindra Financial Services. “If the cost of borrowing goes up substantially, we would not pass it on entirely to our borrowers. We’d take a bit of the mark-up on ourselves and expect original equipment manufacturers and dealers to make up some of the cost.”
As money becomes expensive, even Indiabulls was forced to raise mortgage loan rates by a maximum of 200 basis points to 14.90% last Tuesday. Some are more focused in their approach, in terms of products they offer and the geography the serve, feels Iyer.
“Liquidity conditions — be it on yields or systemic — have worsened in the last six months, but well-capitalised NBFCs need not worry,” assures Gagan Banga, vicechairman, Indiabulls Housing Finance. “But these are testing times.” Till date, most have been saved by liquidity stress not being alleviated, but if rates harden further, then worrying cracks will start appearing at borrower level too.
Most are grappling with inherent ALMs as their money is stuck in the likes of threeyear two-wheeler loans, five-year truck loans or 10-year housing loans but their commercial papers face immediate redemption or repayments in six months. Similarly, all HFCs have inherent ALM where average lending is for 12-15 years, while they borrow for seven to eight years.
“Another challenge for NBFCs could come from their assets,” warns Mukherjea. “Non-performing assets (NPAs) across NBFC portfolios may rise sharply in the coming months, owing to rising rates. Rates and NPA counters usually move in opposite directions.” Ask the banks. They already know when business slows down, NPAs as a proportionate to assets look bigger and scarier. “For real estate, you have the Insolvency and Bankruptcy Code process. But without government-guaranteed liability mechanisms, we don’t have a way yet to deal with it,” points out a senior executive at a private bank, who did not wish to be identified.
Let’s see why it had to unravel this way. As state-run banks retracted under the weight of surging NPAs, housing finance and other non-bank lenders mushroomed. At last count, there were over 4,000 of these shadow banks in India, amassing large balance sheets, pumping out 30% of all new credit in the economy over the past three years. But unlike banks, shadow lenders didn’t have access to household deposits and became increasingly reliant on wholesale funding.
Four years ago, only 12% of these specialist financiers’ loan books were funded by short-term CPs and NCDs maturing in less than a year. CP and short-maturity NCDs now account for 21% of funding. The lion’s share of this money came from mutual funds, which have picked up 97% of shadow lenders’ CP and 78% of their NCDs since March 2017, according to Nomura’s research.
Those funds, in turn, raised bulk of their money by getting businesses and high-net-worth individuals to park surplus cash with them. More and more of the lenders issued cheaper and shorter-tenured CPs and NCDs to meet their long-term funding needs.
More and more funds gobbled them up. So they borrowed for one to three years and used the proceeds to disburse 15-year housing loans, creating the pressure. A chain was created, with everyone thinking about sitting on liquid pools of capital. In reality, though, as ALMs ballooned, the mirage vanished. “High growth has been financed by CPs and refinancing risks have gone up,” says Adarsh Parasrampuria, analyst, Nomura. “We see weakest liability positions in JM Financials and high-growth companies such as PNB Housing Finance and Can Fin Homes.”
With rate cycles in reverse and the IL&FS default, the spotlight is on an industry that has been punch drunk on declining bond yields and the CP market. “The combination of worsening liquidity and asset quality issues is plaguing the sector,” agrees Devendran Mahendran of HSBC. “Redemptions from the money market and bond funds can lead to a liquidity squeeze at NBFCs and expose asset quality concerns which, in turn, could lead to more redemptions.”
Mutual funds, money-rollers of NBFCs, are fighting their own demons. In September, the MF industry logged liquid fund outflows worth Rs 2.11 lakh crore. The reason — the IL&FS crisis and tight liquidity in banking. “Liquid funds are quick-paced… money flows in and out very fast. So the money that has gone out now may come back in the days to come,” says A Balasubramanian, chief executive, Birla Sun Life Mutual Funds.
“We’re open to rolling over CPs if they’re priced properly. We’ll fund NBFCs on a case-to-case basis by checking their ability to repay. At our end, we’ll operate the next few months profiling investment habits of our investors and keeping enough cash to manage daily redemptions,” Balasubramanian reassures. Lakshmi Iyer, chief information officer, fixed income, Kotak Mutual Fund, brushed aside talks of a major NBFC crisis. “It’s wrong to paint all NBFCs with the same brush,” she says. “We’re buying NBFC papers selectively… You can’t ignore the NBFC/HFC space as this category is the biggest issuer of short-term papers. NBFCs become our first port of call at all times.”
BANKING IN A VACUUM
When money came in easy and cheap, most NBFCs desired to be like banks. They wanted to be present across markets and offer all products that a bank would normally do. According to Crisil Research, NBFCs and HFCs grew at the expense of public sector banks, which shrunk lending books on account of escalating NPAs. “NBFCs could make up for the void created by PSBs. They forayed aggressively into segments where banks had limited presence, such as loans for consumer durables, property and unsecured small and medium enterprises,” says Rahul Prithiani, director, Crisil Research.
What NBFCs failed to realise was that banks had the Reserve Bank of India as the ‘lender of last resort.’ Non-banks didn’t have anybody to lean on. “NBFCs are dependent on wholesale funding; any liquidity squeeze within the system would make them vulnerable. RBI and (markets regulator) Sebi will have to work alongside to solve this recurring problem. Somebody has to stand up and calm the nerves,” says Arundhati Bhattacharya, former SBI chairperson. “There is a need for stricter regulations around NBFCs as well. They are important for growth of our economy. Banks alone will not be able to serve all sections of society. NBFCs help to bridge the gaps.”
For now, NBFCs have reduced fresh loan disbursals, and incoming funds (NBFC borrower repayments) are used to pay off banks and MFs. This strategy alone could bring down segmental growth by 5-7% this fiscal, analysts opine. “The problem is only on the liability side of NBFCs; the asset side is still strong. Also, there’s good demand for credit. If the industry gets out of this mess, it has enough opportunities to grow,” says Jaspal Bindra, executive chairman, Centrum Group.
Pramod Bhasin of Clix Capital, a recent entrant into the NBFC space, says, “There has to be some structural changes in the way NBFCs operate. They should have fixed long-term funds at their disposal. It would be great if we could get long-term savings into NBFCs.” NBFCs have touched our lives in more ways than a bank. Pop into a neighbourhood electronics store and you would know. Regardless of the small sum in your wallet, you simply have to select your gizmo and let a non-bank pick up the tab.
Your credit score could be any number between 600 and 900 — there’s always an NBFC willing to help you with a smile. Perhaps that was a wrong thing to do. For now, NBFC chiefs are putting up a brave front. “We always had a cautious, conservative approach in growing NBFC business. Our consolidated gross debt:equity ratio is 2.5,” says Vishal Kampani, managing director, JM Financial.
Veterans such as Indiabulls’ Banga or Edelweiss’ Shah are less perturbed about structural shifts in the funding mix, basing their premise on the fact that repayments (by borrowers of NBFCs) happen in tandem, ensuring steady cash inflows. “Over 20% of a housing loan comes back into NBFCs in the first year; 33% of money lent to SMEs comes back in 12 months. Almost 100% of gold loans, consumer loans and MFI advances return in one year and 25% of auto loans come back within a year. So there is a lot of money coming into NBFCs for repaying to banks and MFs,” argues Shah.
“ALMs in NBFCs are not as grave as people are making them out to be… This industry survived with no funding for 20 days… There have been no known cases of defaults till date. This is just a stress test for NBFCs.” After the recent carnage, we’re not so sure. And without government bailouts, one wonders if the heart would have stopped beating for now.
(Arijit Barman contributed to this story)