Dear Investors,
The following chart depicts our returns viz BSE 500 TRI:
In this memo we plan to discuss the recent clampdowns by the RBI on Banks, NBFCs and Fintechs. In the last one year the RBI has come down hard on NBFCs (IIFL Fin, JM Finance, Bajaj Fin), Banks (Kotak, BOB, Federal, RBL) and Fintechs (Paytm, Scapia).
RBI has applied a slew of hard measures: stopped new customer additions, imposed more than usual financial penalties, questioned margin and LTV computation practices, and questioned customer KYCs norms.
We wanted to take you back in time to explain the extent of the systemic risk and explain if the curbs are not put in now, it may permanently dent the consumer demand for a long term.
The chart below highlights growth in household debt as a % of GDP for India.
SOURCE: WWW.CEICDATA.COM | CEIC Data
The chart below also compares the household debt as a percentage of % GDP across leading countries.
SOURCE: WWW.CEICDATA.COM | CEIC Data
It is apparent from the above two charts that the household debt as a percentage of GDP has risen rapidly for India (almost doubled in a decade) and this has sprung RBI into action to put early guardrails. From our limited understanding of household debt or debt in general, we can also conclude that beyond a reasonable level, high household debt can dent consumer sentiment and permanently taper consumer demand for the longer term. We have seen examples of demand compression in Japan, Thailand, UK and Canada, countries that stack pretty high on their household debt as a % of GDP (chart above).
In the following section we try to explain what categories of debt have grown in India, per the heads defined by RBI.
Source: RBI
It is quite apparent that personal loans have grown exponentially compared to other leading loan categories in the last 9 odd years. Personal loans have grown from ~ 15% of the total loan basket of scheduled commercial banks to ~ 30%, during this period. Within personal loans, the categories that have grown the fastest are unsecured loans such as credit cards, digital/online loans, instant loans and durables loans, e-commerce loans, and the like. To explain, housing loans although have grown fast too, have a lien on the underlying land/house hence considered secure.
Source: RBI
To put things in perspective, per our assessment the total number of credit card users have remained range-bound/constant/or may have decreased (companies do not publish this data) between 2019-2024. During the same period, the credit cards outstanding have grown at a CAGR of 17% and the total personal credit has grown at a CAGR of ~25%. In a nutshell, credit worthy people have moved from having 1-2 credit cards to 3-4 credit cards, while the total base has remained largely constant.
The sheer scale and rate of growth in these categories has put under stress the processes used to originate loans, do customer KYC, assessment of credit risk and the security/scale of the customer digital platforms used by these entities.
Following is a summary of the actions taken by RBI against some of the Banks, NBFCs and Fintechs. Please note that the list is just indicative and is being used to support the argument.
Federal Bank/South Indian Bank: On March 14 2024, the RBI directed Federal Bank and South Indian Bank to stop issuing any new co-branded credit cards with partners (One card and Scapia). According to RBI regulations, only credit-card issuers — banks — can access customer data and not their co-brand partners. For instance, in the case of Amazon Pay-ICICI Bank credit card, Amazon can’t access customer data. Federal Bank was using the software stack provided by One Card and hence the question on the confidentiality of data rose. Federal Bank has also significantly reduced the credit limits it was offering to its Scapia travel card customers (from 4-8L to less than a lakh). Due to credit delinquencies, such credit limits are typically offered to very high value customers. Whereas Federal/Scapia were offering these limits to middle income or new to credit customers. Both have suffered high delinquencies since. As a reference, the credit card portfolio of Federal Bank has grown from INR 270 cr in March 2023, to INR 3060 in March 2024.
Kotak Mahindra Bank: On April 26 2024, RBI directed Kotak Mahindra Bank to halt onboarding new customers through its mobile/online platforms or issuing new credit cards. This emanated mainly due to unaddressed supervisory concerns emerging from the Regulator’s IT examination for FY 22/23 and from the frequent tech-outages (latest being on 15-Apr-2024). Notably, similar punitive action was taken earlier in the case of HDFC Bank. For Kotak Bank, its active credit cards have grown by 3x in the last 5 years. Kotak 811 (digital only onboarding) initiative has added 2 cr deposit customers in the last 6 years. The KYC norms for onboarding these customers have often been questioned.
Bank of Baroda: On Oct 10 2023, RBI had directed Bank of Baroda to suspend further onboarding of customers onto the BOB World mobile application. This is driven by concerns on the adverse incentives in the bank to onboard customers online, by bypassing the basic KYC norms of onboarding. The total credit cards outstanding for BoB have grown by 11x in the last 5 years (on a base of 2.3 L outstanding cards in 2019).
Bajaj Finance: On Nov 15 2023, RBI had asked Bajaj Finance to suspend issuance of its Ecom and Insta EMI cards. RBI highlighted that Bajaj Fin did not issue key terms/facts statements (per RBI Digital lending norms) to its customers while issuing these loans. The ban has now been lifted on May 02, 2024 post RBI scrutiny.
IIFL Finance: On 4 March 2024, the central bank had suspended disbursement of new gold loans by IIFL Finance until the satisfactory completion of the audit owing to concerns regarding loan disbursement practices of the company. RBI's inspection had indicated a lack of adherence to the standard auction process and a lack of transparency in charges being levied on customer accounts.
Paytm Payment Bank: From March 2022 till Jan 2024, RBI had been highlighting material non-compliance to Paytm Payment Bank in its new customer onboarding and KYC processes. The regulator initially asked the payment bank to stop onboarding new customers. On Jan 31, 2024, the regulator asked all existing customers to stop top ups and withdraw any balances in a phased manner from their customer accounts, prepaid instruments, wallets, FASTags, NCMC cards, and the like.
JM Finance: In March 2024, RBI had asked JM Finance to stop being a lead manager in any new debt issuance. JM Finance was found masking itself as both originator and customers to bid for debt placements. JM Finance, did not do the expected diligence to onboard customers who could bid for new debt offerings. These customers were largely fake and their incomes did not justify their credit worthiness to bid for a significant amount of debt securities.
Per us the key outcome of above clampdown/actions is as follows:
Slower credit growth in these categories in the near term. We believe that credit growth could slow down by 5-6 p.
HIgher risk weight means lower limits, and higher cost of funds. Cost of credit could go up by 2-3 p.
Tighter KYC norms means, banks being made more accountable for risk profiling and KYC of their customers. Fake onboarding, round tripping will be scrutinised more.
Per regulations, the fintechs act as just the marketing funnel and do not have access to customer spending data. This would limit the ability of Fintechs/co-branding partners to cross sell, a core revenue stream for them.
Key actionables for us as fund managers evaluating/managing investments in this sector are:
Curtail our positions in Banks with high credit card or personal credit business. Assess the trends in their credit slippages. Build any future position once slippages settle. We are evaluating this space for good quality lenders who can endure this phase and are reasonably valued.
Invest in players with strong/modern core banking and lending software and infrastructure. Dig deeper to understand the same.
Identify and invest in listed core banking software or banking software companies that provide strong credit and KYC frameworks to banks and NBFCs.
Look for other focused and well managed banks/NFBFCs lending primarily in housing, corporate, MSME, commercial credit. These categories have seen good credit growth with strong operating procedures.
Regards,
Prescient Capital