Strong risk management systems, a diversified loan portfolio and an impeccable track record make HDFC a safe bet.

The trend reversal in interest rates and the recent policy incentives given to housing loans is a positive for Housing Development Finance Corporation (HDFC), which commands a majority share (around half) in the housing mortgage market. In the long run, growing urbanisation, rising disposable incomes and favourable demographics, will ensure that demand for housing would continue to remain robust. HDFC’s diverse loan portfolio along with superior lending practices de-risks its business model. Lower operating costs along with stable margins and high asset quality also ensure sustainable profitability. The company’s track record of successfully withstanding tough times provides comfort, which along with the value from its subsidiaries make HDFC a decent choice for long-term investors.

Retail mortgage accounts for around two-thirds of the total loan book. But, since most of the retail portfolio comprises of individual borrowers (more than 90 per cent of them borrow funds to purchase house for self-occupation), the default rates are minimal. The majority of the loan disbursals are to middle class -salaried employees along with greater focus in Tier 2 and 3 cities also ensures that the retail portfolio is well diversified. In the home mortgage market, HDFC has been increasing its market share, and further share can be garnered as most of the leading banks are going slow in lending.

In the Wholesale segment, advances to developers (about 12 per cent of total loan book) are in the focus, in the aftermath of weakness in the real estate sector. The falling demand for developed properties and lack of liquidity has put pressure on the developers, thereby increasing the chances of defaults. Thus, HDFC being a financier to real estate developers is also in the spotlight. To its credit, the disciplined approach by the company in these disbursals will ensure that HDFC is better placed compared to others. Among stringent norms include a low loan-to- value (LTV) ratio (proportion of loan value to property value) of less than 65 per cent and providing funds for property development rather than land acquisition. The rest comprises of funding to highly rated corporate and loans for acquisition of property in IT parks and industrial zones.
 

Disbursals moderating, funding decent
While disbursements have grown 27 per cent in the last five years, it slowed in the high-interest rate environment to 23 per cent in Q2 FY09. A part of this deceleration is due to HDFC moderating disbursements to guard against tight liquid conditions along with slowing exposure to real estate developers. However, as property prices are correcting, the disbursement growth should pick up in conjunction with declining interest rates in the future. Housing finance qualifies for priority sector lending and in addition with superior track record, HDFC has easier access to funds to grow its business. But, in the present scenario of higher interest rates, bank lending has become expensive, and thus, HDFC has shifted its focus towards deposit mobilisation. The indication of this effect is the increase in share of deposits from around 17 per cent in FY08 to around 20 per cent as on date. However, debt instruments like bonds and debentures continue to be the major source of funding (around half). The key point is that most of HDFC bonds are of AAA rating, which means raising funds wouldn’t mean a problem in the future. The fact that it has been able to mobilise retail deposits at competitive rates also indicates HDFC’s strong brand equity and distribution reach.

Strong financials
HDFC has delivered high profit growth of around 30 per cent, on an average, in the five years. Its profitability, too, has been driven by stringent lending norms (among lowest NPAs), a tight tab on operating costs and strong volume growth, over these years. For instance, its cost-to-income ratio has improved from around 14 per cent in FY05 to around 8.5 per cent in FY08.

Although higher interest rates put pressure on the repayment ability of the borrower (customer), HDFC has been able to curtail any possible slippages (NPAs at around one per cent) through strict monitoring and lower LTV allowed to borrowers. The strong risk management systems and the recent decline in interest and property rates should help sustain lower NPAs, going forward. On the margins front, HDFC has been able to maintain at around 3.5 per cent (net interest margins) on the back of decent spreads, reflecting its ability to revise lending rates (nearly 90 per cent of its loan book is floating rate) as well as source funds at relatively cheaper rates.

Investment rationale
While the demand from real estate developers would remain strong, with the growing risk aversion shown by the banks, HDFC has also been cautious and judicious in terms of its lending to real estate even as it provides higher margins.

Notably, the recent policy measures suggest that the pressure for companies like HDFC should start receding. The moves by RBI like reducing the risk weights on the loans and advances to commercial real estate, along with cut in CRR and repo rate would lead to lower lending rates. Additionally, RBI’s has increased the limit for classification of housing loans as a priority sector advance to Rs 20 lakh. Since HDFC’s average ticket loan size is around Rs 15 lakh, this should further ease liquidity.

In the long run, HDFC’s track record of sustaining earnings in all the business cycles, an underpenetrated mortgage market, would ensure healthy returns for long-term investors.

Apart from the housing loans business, HDFC has presence in the financial services space through its subsidiaries and associates, namely HDFC Bank (banking), HDFC Standard Life (life insurance) and HDFC Mutual Fund. With a combined value of around Rs 625-725 per share for HDFC from these businesses and any move on the proposed merger of HDFC Bank with HDFC should prove positive for the stock. Currently, the stock trades at around 14 times its estimated FY10 earnings and price-to-book value of 2.8 times its FY10 standalone book value (excluding subsidiaries), and can deliver 20-25 per cent in a year’s time.

New Ipad Application :Business Standard's all new IPad App Click here to download for free Other Stories      - Markets trading higher amid volatility - BOJ lifts Nikkei higher, at 200-day moving average - Rupee drops further by 23 paise vs dollar - Amartya Sen receives Humanities Medal from Obama - Web Excl: Govt may invest Rs 5.88 lakh cr in roads & highways

Read Business news in  Advertisements -  Now property search gets more exciting than ever before! -  High Growth Business Opportunities in Africa - Register to explore -  We live for our family. have you secured them? -  Financial Learning now made easier and more convenient. -  Earn fuel worth Rs.2400 with Citi -  India's No. 1 Property Site. Click here to know more.. -  Get 5% cashback on telephone bills with Citi -  Exim Bank Conclave on India - Africa Project Partnership. Know more.. -  Be part of it The World's Largest Aircraft. -  Creating Wealth made simple the SIP way. Know more.. -  Only Developer to give a guarantee on time space & rate. -  Office 365 for professionals and small businesses. -  Buy Your Property with Our Triple Guarantee in India. -  Improve Patient Care & Experience. Click here to know more -  Win a Business Class Ticket to Europe..Know more.. -   Introduce a New Automotive Luxury Car.. know more -  Health is Wealth..... Insurance + Savings... Know More...