Housing still the best bet: Housing finance continues to deliver better than vehicle and infrastructure finance. While macro has improved marginally, growth outlook remains challenging for most of them. Housing continues to grow at 15-20% CAGR (compound annual growth rate) for the system and HDFC and LICHF (LIC housing Finance) continue to penetrate deeper for growth and to offset the ongoing slowdown of Mumbai and Delhi. Versus this, vehicle sales remain subdued. While SHTF (Shriram Transport Finance) expects new CV sales to remain slow for another 12 months, MMFS (M&M Financial Services) is seeing incremental slowdown in rural markets. Infrastructure space has turned slightly positive with FRPs being signed, though incremental capex is a long way off and restructuring will still happen over the next few quarters.
Stable margins: With RBI hiking repo by 50bps and another 25bps likely (as per our economist), funding costs will remain elevated. However, most NBFCs had upped lending rates by c50bps in
Aug-Sept and so margins should remain stable.
Vs banks: Its a mixed bag. While NBFCs have delivered better growth than private banks, only HDFC and MMFS have been able to hold on to their profitability. Going forward, however, SHTF and LICHF margins have bottomed with limited asset quality concerns, while credit risks for banks are rising. IFCs remain the weakest space among all of them.
We simplify our valuation methodology from the blended approach to a singlestage Gordon Growth Model based on medium-term RoE weighted by base, bull and bear scenarios. This is to bring our valuation methodology in line with that of our banks coverage.
Preferred plays are HDFC Ltd, Shriram Transport Finance Company Ltd and LIC Housing Finance Ltd: We continue to prefer stocks with lower growth and earnings volatility and attractive valuations. Housing finance companies continue to outscore other NBFCs.
Gauging Q3: It was a challenging H1FY14 in the wake of weakening domestic growth, inflation and currency concerns. RBI had to resort to a tough monetary policy stance, leading to a spike in short-term rates and credit demand shifting from NCDs to banks. NBFC was a very tough space to be in. Not only their funding cost spiked, but sector-specific issues threatened to affect profitability.
Contrary to H1, October and November saw some incremental positive macro developments. While RBI reversed most of the MSF rate hike (in Sept and October), it also increased repo rate by 50bps to 7.75%, thereby making the rate hike more permanent. At a broader level, Q2 GDP improved slightly over Q1, contrary to economists expectations, while CAD deficit has remained low. Based on this we spoke to a number of NBFC management teams about their expectations of growth and margins in the current quarter. Broadly, the growth outlook has not changed much for most NBFCs, while margins are likely to remain stable.
Growth: While most of the NBFC segments are not seeing recovery yet, retail housing continues to stand out. It has been the most resilient sector in the past few years, despite the slowdown, and still continues to row at a steady pace. Mumbai and Delhi continue to see lacklustre volumes, while smaller towns and cities continue to grow well. With both, HDFC and LICHF, incrementally, penetrating the smaller towns, growth continues to remain fairly buoyant for them. Q3 should continue to see them delivering a steady 20-22% y-o-y loan growth according to management.
Vehicle finance, a mixed bag Vehicle finance, on the other hand, has been mixed. While commercial vehicles (CV) sales remain weak in the wake of the industrial slowdown, the used CVs space is substituting new CVs space, and in the process, benefitting SHTF versus new CV financiers like IIB, HDFC Bank and Kotak. However, overall used CV growth has also reduced in the past few quarters. SHTF management expects the CV slowdown to last another 12 months, before recovering.
Urban car sales have also declined meaningfully this fiscal. However, against this, rural has continued to grow, due to the impact of good monsoons, higher MSPs, rural employment programmes and professionals working in rural India. However, incrementally, MMFS is witnessing slowing vehicle sales in rural as well. According to the management, October was a good month due to festive season; however, November sales have again slowed. the rural geography, slowdown is visible in CVs and cars, while UVs is stable. However, used and tractors continue to grow at a good. MMFS also seemed slightly worried on asset quality, given the approaching national elections, in which case, they might choose to provide and carry the NPLs on their books for a longer time rather than repossessing vehicles and writing off the loss , getting resolved, but recovery still away.
Infrastructure has become an interesting space to watch. The power sector, which forms over 50% of infrastructure finance, has incrementally seen more resolutions coming through in the past two months. The key ones among them are:
Financial Restructuring Package (FRP) signed by the largest exposure states of UP, Rajasthan and Haryana (Tamil Nadu done earlier) and four new states included
New Case-I bidding documents finalised, paving way for pass through of high fuel cost
FSA (Fuel Supply Agreement) being signed with private power projects
GoI mulling allowing extension of COD for troubled private sector projects, thereby, giving breathing space and allowing banks to avoid restructuring for upto three years.
Given these developments, IDFCs management believes that power sector issues should soon be resolved and the worst is probably behind them.