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Budget 2019 proposals will help NBFCs, but investors still need to exercise caution

But they are aimed at handling short-term liquidity issues. Solvency issues of the NBFCs still remain a worry.

, ET Bureau|
Jul 15, 2019, 06.30 AM IST
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The most important measure was the provision to create Rs 1 lakh crore securitisation facility with government guarantee.
Stocks of non-banking finance companies (NBFC) reacted enthusiastically to the recent Budget, which proposed to lend a helping hand to the cash-strapped NBFCs. The recognition of the systemically important NBFC sector by the Finance Minister also enthused the market. “By mentioning NBFC 18 times in the Budget speech, the Finance Minister accepted that NBFC is a very important part of the economy,” says S. Krishnakumar, CIO, Equities, Sundaram Mutual Fund. Krishnan Sitaraman, Senior Director, Crisil Ratings concurs: “The finance minister’s broad statement of support for the NBFC sector alone will give some confidence to the industry players.”

Finance Minister Nirmala Sitharaman recognised that “NBFCs are playing an extremely important role in sustaining consumption demand as well as capital formation in the small and medium industrial segment”. Besides providing working capital support to micro, small and medium enterprises, NBFCs have helped create consumption demand in several sectors— auto, consumer durable, etc.—by providing easy loans during the past few years. However, the payment default by IL&FS in September 2018 hit the NBFC hard. Due to increased fear, banks restricted their stopgap funding arrangement with the NBFC sector and this liquidity crisis has adversely impacted other sectors. For instance, the recent slowdown in auto sales. This is why the Finance Minister chose to address this issue by announcing specific measures.

Strong NBFCs have high valuations
It does not seem prudent to invest in them at such high prices.

NBFCs ranked based on the PBV ratio. Data as on 8 July. Compiled by ETIG Database.

The most important measure was the provision to create Rs 1 lakh crore securitisation facility with government guarantee. Public sector banks (PSBs) can participate in this scheme without fear because the government will be offering a one-time sixmonth partial credit guarantee to them for losses of up to 10%. While this government guarantee won’t help clean the entire NBFC mess, it will provide immediate relief to the sector by restoring confidence among NBFCs. “Historically, securitised transaction has never seen more than 10% loss and this move isaimed at assuring PSU banks that they won’t suffer losses,” says Sitaraman of Crisil Ratings.

Who will benefit?
The phrasing of this provision by the Finance Minister, “For the purchase of high-rated pooled assets of financially sound NBFCs,” has raised some doubts about the kind of NBFCs the government is trying to support. One can reasonably believe that it is not aimed at top rung NBFCs such as HDFC or Bajaj Finance because they are not facing any liquidity issues right now. Due to government parentage, NBFCs such as Power Finance Corporation, LIC Housing Finance, etc., are also not facing any liquidity issues. So, it appears that the targeted beneficiaries of the proposed scheme are the middlerung private sector NBFCs. The help these NBFCs need also depends on their assetliability management (ALM).

Banks are comfortable extending short-term credit to NBFCs—short-term loans like micro finance, gold loan, small vehicle loans, etc.— because there is no ALM mismatch for them. However, NBFCs catering to the real estate and infrastructure sector give long term loans (10-30 years) and there is likely to be some ALM mismatch, if their loans are funded by short-term borrowings. “Medium NBFCs with ALM mismatch are facing liquidity problem now and the government’s proposal is to help those who are financially sound,” says Sitaraman.

NBFCs available for cheap may be risky
Investors should not jump in simply because these are trading at low prices.
NBFCs ranked based on the PBV ratio. Data as on 8 July. Compiled by ETIG Database.

Other measures
PSB recapitalisation of up to Rs 70,000 crore was another important measure that was announced by the Finance Minister. “Better than expected recapitalisation proposal was basically to help PSU banks buy securitised bonds from NBFCs,” says Arun Gopalan, Senior VP, Systematix Shares and Stocks. The Finance Minister also proposed bringing the housing finance companies (HFCs) directly under the RBI to strengthen the central bank’s regulatory authority over all NBFCs. Currently, HFCs are regulated by the National Housing Bank, an RBI subsidiary. “These are critical measures because the exact amount of bad loans with NBFCs is still not clear and only regular asset quality review by the RBI will bring it out,” says Shailendra Kumar, CIO, Narnolia Financial Advisors.

Don’t ignore solvency issues
Other than ALM-linked liquidity issues, some NBFCs have also been facing solvency and regulatory issues. The solvency issue is more prominent with NBFCs associated with real estate or infrastructure projects because these sectors are still under duress. The Finance Minister has tried to revive the real estate sentiment by announcing an additional Rs 1.5-lakh interest deduction on housing loans taken for buying affordable housing—where the house price is below Rs 45 lakh. However, this may not be enough because this Rs 45-lakh limit is too small and houses in this price will be available only in tier-3 cities, or far-flung suburbs of the big cities.

Don’t jump in
The NBFC segment is now seeing extreme polarisation and fundamentally strong companies such as HDFC and Bajaj Finance are already trading at rich valuations. If we assume that the NBFCs books now are clean, DHFL seems like a must-buy because it is now trading at a PE of just 1.63 and PB of 0.28. But as mentioned earlier, investors should wait for the real non-performing assets (NPA) to be revealed before jumping to buy these stocks. Just like the NPA situation in PSU banks and corporatefacing private sector banks, it may take a few years to clean the system (after these NAPs come out in the open). So, it is best to wait and watch.
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