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22nd December 2011 |
NPA concerns in banking overblownShiv Puri
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- A few poorly run over levered businesses and large infrastructure projects that are not backed by large corporates are where a majority of the NPAs may emerge. Given that these tend to show up in the front pages of the newspaper everyday it gives the impression that the problem is systemic.
- Another concern revolves around the exposure of the Indian banks and the Indian corporate sector to European banks. This is not a real concern for several reasons. Firstly, the regulations do not allow banks to borrow overseas and use that money to lend in India. Secondly, foreign corporate borrowing for any company based in India is required to follow the External Commercial Borrowing (ECB) guidelines which simply state that among many other conditions, the company cannot pay interest at more than LIBOR plus 500 bps. As a result, only the very large “blue chip” companies in India can tap the overseas borrowing market.
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Recently, there has been a lot of concern about the banking sector and NPAs. While NPAs are picking up due to the marginal slowdown in growth and project delays in the infrastructure sector, the financial system remains very healthy. Thus, the NPAs as % of loan book should pick up from 2.5% to 3.3% in 2012, and are expected to peak out there. The main reason is that consumer, retail, small/ medium enterprises and large corporates remain generally in excellent financial condition. A few poorly run over levered businesses and large infrastructure projects that are not backed by large corporates are where a majority of the NPAs may emerge. Given that these tend to show up in the front pages of the newspaper everyday it gives the impression that the problem is systemic. A closer examination reveals that the list of companies / projects under stress are the same, but they keep showing up in different intervals. Infrastructure lending is still only 10% of loans in India. A slew of upcoming project approvals and reversal of the interest rates hikes this year will change the perception on financial stocks over the next few months. As a result, we expect the financial stocks in the portfolio to be the biggest beneficiaries over the next couple of quarters.
Another concern revolves around the exposure of the Indian banks and the Indian corporate sector to European banks. This is not a real concern for several reasons. Firstly, the regulations do not allow banks to borrow overseas and use that money to lend in India. Any borrowing overseas is only for lending overseas, which is why the numbers as a % of overall lending are small. Indian banks don’t have any significant global presence. Secondly, foreign corporate borrowing for any company based in India is required to follow the External Commercial Borrowing (ECB) guidelines which simply state that among many other conditions, the company cannot pay interest at more than LIBOR plus 500 bps. As a result, only the very large “blue chip” companies in India can tap the overseas borrowing market. Hence this is not a material risk to the corporate or financial sector. The European banking and sovereign debt issues reduce liquidity at the margin, the biggest impact of which is on the equity markets, as it introduces a marginal seller into a weak market. On that note, foreign investors sold $500M of stock last year. While this can be viewed positively or negatively (in that foreign selling is yet to come), one thing is certain that the “weak hands” folded in 2008/9. Most large FII investors in India have been here since the late 1990s and early 2000s. Any “hot” money has all but dried up.
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