A few of you may have noticed the frenzy around the NBFC and especially the MFI (micro finance institutions) space. The buying frenzy is not entirely irrational.
The Indian household debt at around 9-10% of GDP is among the lowest in the world and there is a huge pent up demand in the retail / MSME segment. The introduction of adhaar, regulatory changes and several new technology tools is now allowing the NBFC segment to reach new customers at a much lower cost and achieve rapid growth.
We are now seeing growth in excess of 40% in this space. This is further aided by the fact that PSU banks and to a certain extent some private sector banks, are not capable or interested in serving these customers.So we have a confluence of factors coming into play here – A new regulatory and technology platform which allows companies to reach out to a large set of under-served customers at a time when the dominant players in the ecosystem, namely banks, are not in a position to take advantage of these opportunities.
We are seeing this playout in the entire financial services space – Home loans, NBFC, Auto finance and even structured finance. This is likely to continue for the next 2-3 years.Tread with caution
There is however a dark side to this whole opportunity – A growth of 30%+ may lead to poor lending practices and weak credit underwriting in several cases. This may be truer in the case of newer institutions which lack the experience and management bandwidth to manage this growth (and later collect the bad debts).
We may not see the impact of these practices for the next 2-3 years, but if poor decisions are being made, the chickens will eventually come home to roost. We have seen that in the past in the sub-prime mortgage crisis in the US and the bad debt problems of the PSU banks now.The time to be cautious is now and not when poor lending practices lead to a blow up in the future. In other words – tread with caution and be sure what you are buying.
What are we doing ?
We are already around 20% of our model portfolio in financials via four companies. These companies operate in different segments of the financial ecosystem and I believe that the management of each of these companies is competent and has seen multiple cycles in their respective businesses. At the same time, if the frenzy continues and our concentration in this business segment continues to grow, I will start reducing the position size.
For now, we are not there yet and hence I am not taking any action.----------------
Stocks discussed in this post are for educational purpose only and not recommendations to buy or sell. Please contact a certified investment adviser for your investment decisions. Please read disclaimer towards the end of blog.