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In today’s edition of TOPICAL Wednesday, we will talk about the rising slippages in the BFSI sector.
Many banks and NBFCs’ announced their results recently, and one concerning thing that was common across multiple results was rising slippages. Now, how did that happen? Well, let’s take a step back to understand the bigger picture. After burning their hands in the IL&FS crisis with over-reliance on corporate loans, banks understood the importance of retail, private loans and started focusing in that direction and diversified their loan book. And then when the COVID-induced lockdown got over, private loans grew tremendously. This growth was further amplified by high-flying digital lending platforms that have simplified and reduced the borrowing process to just a few clicks. So, as people’s propensity to spend increased, they took on more loans. This has been highly profitable for everyone. But in this quarter, or rather in the first half of FY25, there has been a rise in loan slippages*. This is due to the increase in delinquencies* that came with the rapid rise in debt and resulted into higher slippages, mainly in the unsecured lending space.
(*Delinquencies – When borrowers fails to make scheduled loan payments on time which can lead to an account becoming Non Performing Asset (NPA.)
*Slippage – Loans that have newly become NPA, indicating fresh addition of bad loans due to non-payment. Persistence of delinquencies leads to slippages)
While things are nowhere near what we’ve seen in the past, thanks to RBI, it is important to understand this pattern in more detail. So, let’s get started!
Performance of Banks in Q2 FY25
In Q2 FY25, several banks and NBFCs in India faced significant challenges due to rising slippages in retail unsecured loans, impacting their profitability. Here’s the summary:
1. Axis Bank – Reported gross slippages of Rs. 4,443 crore, primarily from unsecured loans such as credit cards. Implemented measures like tightening credit scores and spending limits to address these issues.
2. Kotak Mahindra Bank – Experienced increased slippages, particularly in credit cards and microfinance, leading to higher credit costs. Anticipates elevated credit costs to persist for the next 2-3 quarters.
3. RBL Bank– Saw a 24% decline in net profit due to increased provisions from stress in credit card and microfinance portfolios. Internal changes, such as moving collection processes in-house, contributed to elevated slippages.
4. IDFC First Bank – Reported a net profit of Rs. 201 crore, a 73% decline YoY due to higher provisioning. Provisions increased by 228% to Rs. 1,732 crore, with significant allocations for microfinance business (Rs. 315 crore) and a legacy toll account (Rs. 253 crore).
5. Ujjivan Small Finance Bank – Net profit declined 23% to Rs. 233 crore, with provisions rising to Rs. 151 crore from Rs. 47 crore YoY. Asset quality remained stable with gross NPAs at 2.5%, despite the increase in provisions.
6. Bajaj Finance – Reported a muted performance with net profit growth of 13% YoY, impacted by higher credit costs and asset quality issues in unsecured segments.
Only HDFC Bank remained largely unaffected by the industry-wide stress in unsecured lending due to a strategic slowdown in its unsecured loan growth prior to regulatory changes.
From the above, we can clearly see that microfinance and credit card segments are the main reasons behind slippages. Let’s expand upon them a bit.
Microfinance
Microfinance loans are small amounts provided to individuals or small businesses lacking access to traditional banking. Typically ranging from Rs. 20,000 to Rs. 40,000, these loans come with higher interest rates. As of June 30, 2024, India’s microcredit portfolio reached Rs. 4,32,718 crore, growing 20% YoY. NBFC-MFIs led with Rs. 1,71,340 crore (39.6% market share), followed by banks with Rs. 1,39,760 crore (32.3% market share), with the top 10 states accounting for 84% of the national Gross Loan Portfolio (GLP).
(Source: Sa-Dhan)
The microfinance industry in India has expanded significantly, growing at an average annual rate of about 23% from FY17 to FY24. This growth has been fueled by a steady increase in new borrowers, which grew by ~10% annually, and a rise in the average loan amount, which increased by ~11% each year.
(Source: HDFC Securities)
Out of the 20 crore eligible households for credit, 43% (or 8.7 crore) are already borrowers. Additionally, the average loan amount per borrower is also rising. This segment saw strong growth, especially after COVID-19, as personal spending increased. Banks and NBFCs supported this trend with aggressive lending practices.
(Source: HDFC Securities)
However, this growth is showing some weaknesses due to rising delinquencies. In Q1 FY25, the quality of the loan portfolio had worsened across most risk categories.
(Source: Sa-Dhan)
All industry players are experiencing a decline in loan quality.
(Source: Sa-Dhan)
The high delinquency rates are significantly impacted by states with the highest credit penetration. Bihar has over 80% penetration, while Karnataka and Tamil Nadu have more than 57% and 53%, respectively.
(Source: HDFC Securities)
In recent years, NBFCs and banks have rapidly grown their unsecured loan offerings. This expansion is fueled by digital platforms and fintechs, making loans more accessible. Increased consumer spending and better credit access have also played a role. However, over-leveraging and high debt costs are leading to more defaults in the microfinance sector.
Credit Card
India has seen a remarkable rise in credit card adoption over the past decade. In 2011, credit cards were scarce, with fewer than 2 crore active cards. However, between 2019 and 2023, the market experienced rapid growth, increasing from 5.5 crore cards in December 2019 to nearly 10 crore by January 2024, and surpassing 10 crore by February 2024. This surge was fueled by reduced entry barriers, diverse co-branded offerings, and the convenience, rewards, and credit score benefits that credit cards offer. The utility of credit cards was further enhanced by the RBI allowing RuPay credit cards to be linked with UPI, making them even more appealing to consumers.
(Source: IBEF)
But, this growth has led to some negative effects. Defaults on credit card payments have surged, especially among millennials and Gen Z, pushing many young Indians in to debt traps. In the first half of 2024, credit card defaults rose to 1.8%, up from 1.7% at the end of 2023, according to TransUnion CIBIL data.
(Source: Business Standard)
While a 0.1% increase might seem small, the real issue is the growing amount of outstanding debt. By June 2024, credit card outstanding amounts reached a worrying Rs. 2.7 lakh crore, up from Rs. 2.6 lakh crore in March. This is a huge increase from Rs. 87,686 crore in March 2019, showing a 24% annual growth over 5 years. While this surge in credit card spending has boosted consumption, it also raises concerns about a potential debt crisis.
RBI Concerns – Tightening policies
The Reserve Bank of India (RBI) understands the risks posed by unsecured lending if it were to fail on a large scale. As a precaution, the central bank has implemented several measures to address these risks. While these actions have upset many financial institutions, especially NBFCs, they are designed to protect the overall financial sector. Here are key measures taken by the central bank:
1. Increased Risk Weights – In November 2023, the RBI raised the risk weights on unsecured loans, such as personal loans and credit cards, from 100% to 125%. This change requires banks and NBFCs to hold more capital against these loans, thereby discouraging excessive growth in this high-risk area.
2. Cautious Lending Practices – The RBI has urged financial institutions to adopt prudent lending practices, including careful post-disbursal monitoring to prevent misuse of funds.
3. Crackdown on High-Interest Lending – The RBI has acted against NBFCs charging exorbitant interest rates and not adhering to regulatory norms. For instance, Navi Finserv and three other NBFCs were barred from issuing loans due to such practices.
These measures aim to safeguard financial stability by controlling the rapid expansion of unsecured lending, which is inherently riskier due to the absence of collateral. This is one of the reasons why banks and NBFCs’ performance were impacted.
Now that we are clear on how we have reached to the current situation, let’s talk about the expectations going forward.
Future Expectation
As per ICRA, financial stress will slow down microfinance loan growth to 10-12% and unsecured loans to 19-21%. This will also impact secured loans like home and vehicle loans. NBFCs in unsecured and digital lending will face tighter funding because slow credit growth means more borrowers are falling behind on payments, affecting asset quality. As a result, NBFC net interest margins may drop by 20 to 40 bps. Industry leaders agree that microfinance stress is widespread and will likely continue this year. NBFC-MFIs expect credit costs to rise to 4% by March 2025 from 2.6% in March 2024, with asset quality improving by late FY25.
Closing Thoughts
Growth in banks and NBFCs always seems paradoxical. When there is hyper-growth, there is a baked-in expectation that aggressive lending has been done, with delinquencies already expected. That is what seems to be playing out right now as the consumers became over-levered due to changing behavior and, of course, banks’ aggressive tactics. However, the RBI has put in strong guardrails, so we may not witness any banks closing their shops anytime soon and therefore, the current situation is not looking like a potential IL&FS-level crisis. However, investors should remain cautious and track these numbers closely.
🌟Wishing you a very Happy Diwali✨
Our Hardworking Team at Bastion Research
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