SINGAPORE (S&P Global Ratings) Nov. 17, 2023--India's steps to curtail riskier bank lending to consumers will hit loan growth, and will squeeze the nonbank sector in particular.
The Indian central bank has increased risk weights on unsecured personal loans, credit cards, and lending to nonbank finance companies (NBFCs) by 25 percentage points. This will likely lead to higher lending rates, lower credit growth, and increase the need for capital raising among weak lenders. S&P Global Ratings believes that higher risk weights will ultimately support asset quality.
"Slower loan growth and an increased emphasis on risk management will likely support asset quality in the Indian banking system," said S&P Global Ratings credit analyst Geeta Chugh. "However, the immediate effect will likely be higher interest rates for borrowers, slower loan growth for lenders, reduced capital adequacy, and some hit on profits. We estimate that Tier-1 capital adequacy of banks will decline by about 60 basis points. Finance companies will be worse affected as their incremental bank borrowing costs will surge, in addition to the capital adequacy impact."
These changes won't have any immediate effect on our Indian financial sector ratings. This will also not affect our risk-adjusted capital ratio for the rated banks and finance companies. We apply globally consistent risk weights that reflect our view on risks on underlying asset classes. For unsecured personal loans of Indian banks and finance companies, we already apply a higher risk weight of 121%.
A SHARP RISE IN UNSECURED RETAIL LOANS
Unsecured personal loans and credit card debt have risen rapidly in the past few years in India. Such loans have grown 26% in the 12 months ending September 2023. This type of loan, along with consumer durable lending, represented about 9.8% of total loans in the banking system as of Sept. 22, 2023. The lending poses a risk for incremental nonperforming loans (NPLs), as flagged in our research (see "Banking Industry Country Risk Assessment: India," Aug. 3, 2023). We view the increase in risk weights by the Reserve Bank of India (RBI) as prudent.
Small-ticket personal loans of less than Indian rupee (INR) 50,000 are particularly at higher risk. Reported delinquencies (90-plus days past due) for this type of lending was 5.4% as of June 2023, according to Transunion Cibil, a credit bureau. While these small borrowers are often highly leveraged and may have other lending products, loans below INR50,000 comprise only 0.3% of total retail loans. Financial technology firms are more exposed to these loans, as around 80% of their personal loans is to this customer segment.
Analysis by credit bureaus shows that vintage delinquency (accounts that have ever been 30-plus days past due within six months of origination) has been on a rising trend for consumption-led loans, and loans against property.
Vintage delinquency for personal loans had increased to 9%, as of the end of last year, from a pre-pandemic level of 6%. The vintage delinquency for credit cards has risen to 4%, from 3% prior to the pandemic. This stress is predominantly in personal loans below INR50,0000 where 30-plus days past due (vintage) is 10.2%, compared with 3.2% for loans that are above INR50,000.
Notwithstanding the risk of a potential buildup of imbalances in some categories of retail loans, the delinquency rate of 90-plus days past due are at acceptable limits for this product category. Specifically, as of June 30, 2023, the delinquency rate was 1.6% for credit cards, and 0.8% for unsecured personal loans.
We believe that underwriting standards for retail loans by larger players remain generally healthy. Approval rates for new-to-credit customers across all retail loans in April-June quarter have fallen to 23%, compared with 29% a year earlier. The levels reflect lenders' caution and--to an extent--higher inquiries.
Moreover, banks offer a large portion of these unsecured loans to their liability-side customers. For example, about 83% of State Bank of India's personal-loan exposure is to military and government employees. Additionally, 12% of the customers are employed at reputable corporates; the customers have very low incidence of default (see "State Bank of India Can Fend Off Rising Risks In Personal Loans," Nov. 6, 2023). Likewise, for ICICI Bank Ltd., 55% of the personal loan and credit card portfolio is to existing customers.
|Key financials of rated Indian financial institutions|
|Unsecured and other personal loans (% of total loans)§||Credit card lending outstanding (% of total loans)||Tier 1 capital adequacy ratio (%)||S&PGR risk-adjusted capital (%)|
|Indian banking industry||8.3||1.4||14.9||N.A.|
HDFC Bank Ltd.*†
ICICI Bank Ltd.
Axis Bank Ltd.
|Kotak Mahindra Bank Ltd.||4.8||3.1||20.8||14.9|
State Bank of India
Union Bank of India
Bajaj finance Ltd.*
Shriram Finance Ltd.*
Muthoot Finance Ltd.*
|Mannapuram Finance Ltd.*||0.8||-||30.7||N.A.|
|Data as on March 31, 2023. S&PGR risk-adjusted capital ratio is as of March 31, 2023. *Data as on Sept. 30, 2023. §Includes other retail, consumer durable but excluding microfinance. †Personal loan excludes other retail loans. S&PGR--S&P Global Ratings. N.A.--Not available. Sources: Reserve Bank of India. Bank Reports. S&PGR calculations.|
DOUBLE-WHAMMY FOR NBFCS
"NBFCs face a double-whammy of higher risk weights on their unsecured loans, and on bank lending to NBFCs. This will squeeze the reported capital adequacy of nonbanks and push up their funding costs," said S&P Global Ratings credit analyst Deepali Seth Chhabria, adding: "While NBFCs are not homogeneous, many retail-focused finance companies have a much higher exposure to unsecured loans than banks."
Bank borrowings remained the principal source of funding for NBFCs, constituting 41.2% of the total borrowings of the entities (excluding core investment companies) as of March 31, 2023. The cost of the bank loans to NBFCs will rise incrementally, in our view. The overall blended funding costs of these companies will rise accordingly. Finance companies with a shorter duration of liabilities will see a quicker repricing of their liabilities.
NBFCs will likely largely be able to pass on these costs to the borrowers. If they are unable to fully pass on the increased costs to their borrowers, they will take a profit hit.
Weaker finance companies may encounter disruptions to their funding access, which could push the entities to an originate-and-distribute business model. We note, however, that 70% of finance companies are owned by strong parents, including the 43% that are government owned. This fact enhances market confidence and leads to better funding access for these companies (see "Indian Finance Company Outlook 2023," March 13, 2023).
REGULATORY CAPITAL ADEQUACY TO FALL
We estimate that additional risk weight will lower the Tier-1 capital ratio for banking industry to 14.3% from 14.9% due to higher risk weights on unsecured consumer loans and NBFCs. The impact on finance companies like Bajaj Finance and Hero Fincorp will be higher as they have much larger exposure to unsecured loans.
The drop may prompt some lenders with weaker capital adequacy to raise capital. Public sector banks generally have lower capital adequacy than large private sector banks.
Banks' exposure to NBFCs is 7.4% of total loans. In many banks this number is much higher and, therefore, the effect on regulatory capital adequacy will be higher.
For the above estimates, we have included the entire finance company portfolio of banks excluding housing finance companies. Loans to NBFCs that are eligible for priority sector lending--for instance, microfinance companies--will likely be excluded. We have not adjusted for that outcome, and so our impact assessment is likely overstated. Likewise, it is possible that some of the personal loans may include exempted categories and the above data do not reflect this possibility.
The risk weights for finance companies in India is based on their local scale ratings. RBI has increased their risk weights on all finance companies where risk weights used to be below 100%, where local ratings are better than the 'BBB' category. This is likely to be the dominant part of the portfolio and we therefore have assumed almost all loans to NBFCs will be subject to a higher risk weight. Most of the bank loans are to finance companies rated higher than 'BBB'.
For example as per the public disclosures by large unrated banks such as Punjab National Bank and Bank of Baroda (see below), less than 5% of their finance company portfolio is rated 'BBB' or low.
|Breakdown of loans to the NBFC sector (including HFCs) by the domestic rating of the borrower|
|Lenders||'AAA'||'AA'||'A'||'BBB'||'BB' and below and unrated|
|Punjab National Bank||66.9||30.4||2.3||0.3||0.1|
|Bank of Baroda||66.9||24.4||6.7||1.3||0.8|
|Data as on Sept. 30, 2023. NBFC--Nonbank finance company. HFC--Housing finance companies. Sources: Individual bank reports. S&P Global Ratings calculations.|
This doesn't affect our assessment of risk-adjusted capital. We already apply higher risk weights of 121% on personal loans, and 153% on credit card debt, compared with 60% risk weight on mortgages and 81% risk weight for vehicle loans. Our average risk weight on exposure to finance companies in India is however lower at 57%.
The lower regulatory capital adequacy or moderation in loan growth does not affect our ratings on the banks.
Editor: Jasper Moiseiwitsch
- State Bank of India Can Fend Off Rising Risks In Personal Loans, Nov. 6, 2023
- Banking Industry Country Risk Assessment: India, Aug. 3, 2023
- India Banks' Strong Performance Set To Continue, May 25, 2023
- Indian Finance Company Outlook 2023, March 13, 2023
This report does not constitute a rating action.
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|Primary Credit Analysts:||Geeta Chugh, Mumbai + 912233421910;|
|Deepali V Seth Chhabria, Mumbai + 912233424186;|
|Secondary Contacts:||Nikita Anand, Singapore + 65 6216 1050;|
|Ruchika Malhotra, Singapore + 65 6239 6362;|
|Shinoy Varghese, Singapore +65 6597-6247;|
|Media Contact:||Richard J Noonan, Melbourne + 61 3 9631 2152;|
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