Housing finance faces pressure on spreads as loan market heats up

The Indian mortgage market is experiencing intense competition with banks and non-bank financial companies vying for a share of the safest credit segment. This, along with the favorable interest rate regime, is starting to put pressure on the spreads earned by housing finance companies (HFCs).

According to analysts at Nomura Financial Advisory and Securities India Ltd, HFC differential spreads have narrowed sharply to 125 basis points in the past two months. This compares to a spread of around 200 basis points in the second half of 2020. One basis point equals one hundredth of a percentage point.

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Much of this can be attributed to the rise in bond yields, which has made borrowing expensive for mortgage lenders. Ergo, with the increase in the cost of borrowing, spreads have narrowed. Sovereign bond yields have jumped nearly 50 basis points since January and the effect is also visible on corporate bonds. Government bond yields are not expected to fall over the next few months. The Reserve Bank of India (RBI) has also indicated that it will gradually normalize liquidity.

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In other words, the excess liquidity would be reduced. This means less funds available for investing in corporate bonds. HFCs are big borrowers through mandates in the corporate bond market.

Another factor has been the favorable interest rate regime. Progressive home loans are valued at a spread over the repo rate, which has been reduced by 115 basis points over the past year.

Even on loans that are consistently priced below the Marginal Cost of Funds (MCLR) lending rate, the rates have been significantly reduced. Big banks such as the State Bank of India (SBI) have announced cuts in mortgage rates. They basically reduced the spread over the repo rate for this category of loans.

“While we believe this rate cut is only transitory and more likely to be a year-end phenomenon, especially as the benefits of the stamp duty cut end in March 2021, we believe that the incremental spreads which now compress to just 125 basis points require close monitoring, ”a Nomura said. Remark.

The reason banks cut interest rates is because home loans are the safest category of loans. In the context of a general slowdown in personal credit growth, banks are targeting growth in mortgage loans. In addition, special restrictions on state stamp duties and other benefits by the central government have helped increase home sales. This bodes well for the growth of home loans. Competition is intensifying in the sector and this would also put pressure on prices.

Large HFCs would withstand this transient pressure on spreads better than smaller players, analysts said. Shares of housing finance companies have shown a divergent trend so far this year. The actions of the main actor Housing Development Finance Corp. Ltd hardly budged, while those of LIC Housing Finance Ltd and Indiabulls Housing Finance Ltd jumped 20% and 11% respectively. As the pressure on spreads increases, valuations may come under scrutiny.

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Priscilla C. Carnegie