Cost of funds of NBFCs on the rise as banks squeeze

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NBFCs could have to prepare for the funding squeeze. The cost of funds for entities which are not banks is likely to rise 2 to 3 percentage points as banks squeeze funding to this segment. The Economic Times has reported that data show the flow of funds from banks to nonbank entities has declined to 15% in April this year from 22% in the same month in 2023.

As a direct consequence of their funds becoming costlier, non-bank entities are also heading towards a market where their margins would be squeezed. The fund that banks provide to NBFCs are more than 50% of the overall source of funds for the latter.

“Bank loans to non-banking financial companies have decreased sharply after the RBI increased -weighted assets on bank loans to NBFCs. Banks fund almost 50% of NBFC credit through direct loans and subscription to bonds. So a squeeze in bank funding does have implications for NBFCs growth as well as margin prospects,” Suresh Ganapathy, head of financial services research, Macquarie Capital told the newspaper.

Significantly, reacting sharply to the rise in unsecured loans – especially personal loans – RBI instructed banks and NBFCs in November 2023 to increase risk weights against this category of risky loans, credit cards and loans to NBFCs.

A note by brokerage house Motilal Oswal stated that vehicle financiers have already experienced flattening of profit margins. More important these are expected to remain at that level due to increasing borrowing costs.

Another category of non-bank companies to suffer the squeeze in margins are housing finance companies, which, in turn, is applying pressure on yields.

Another reason for cost of funds rising is that non-bank entities are themselves resorting to market borrowings at higher interest rates.

A report of CARE Ratings said mutual fund debt exposure to NBFCs that takes into account commercial paper and corporate debt, exceeded the Rs 2 lakh crore mark in April this year. About 55 months ago, way back in August of 2019, was it above this level.

The quantum of MF investments in debt exposure to NBFCs witnessed a rise of 29.8% (y-o-y) and 9.7% sequentially. Investment is commercial paper stayed above the Rs 1 trillion level for five consecutive months.

Simultaneously, the amount lent by banks to NBFCs have started to decelerate.

“The growth rate of advances to NBFCs has been below the overall bank credit growth since December 2023. This is the impact of RBI’s increasing weights and elevated capital market borrowings,” said Sanjay Agarwal, senior director, Care Ratings.

According to data, NBFC exposure as a share of total aggregate bank credit dipped from 9.7% in April last year to 9.4% in April this year. However, mutual fund debt exposure to NBFCs which was 11.9% in April last year climbed to 13.4% as a percentage of banks’ advances to NBFCs in April this year. It was 12.2% in March 2024.