NBFI challenges can intensify from Yes Bank restructuring: Fitch Ratings

Non-bank financial institutions (NBFIs) will likely face renewed pressure on funding and liquidity following the Reserve Bank of India's (RBI's) takeover of Yes Bank this month, according to Fitch Ratings.

The consequences will compound the credit squeeze across the country's financial system, adding to current economic uncertainty.

The move comes as the impact of the coronavirus is beginning to be felt in India, raising further risks to economic growth and NBFI asset quality. Rising asset quality and funding risks will place pressure on ratings if conditions worsen materially.

The NBFI sector's direct exposures to Yes Bank should be modest as a whole. Yes Bank's issues have been known for some time and companies have had time to pare back any exposure to the bank over the past year.

Yes Bank's advances to NBFIs equated to one or two per cent of the NBFI sector's total bank funding and the sector's asset exposures to the bank will be similarly moderate.

This is the case for Fitch's rated portfolio of Indian NBFIs although companies such as Shriram Transport Finance Company Ltd and Indiabulls Housing Finance Ltd have disclosed some holdings in Yes Bank securities.

Shriram Transport's exposures are to the bank's upper tier two securities, which are not subject to being written down under the RBI's proposed reconstruction scheme. These holdings amounted to less than one per cent of Shriram Transport's equity at end-December 2019 while Indiabulls had exposure to Yes Bank's additional tier one (AT1) bonds.

"Nonetheless, the recent announcement may bring about broader contagion effects for NBFI funding conditions. The RBI's planned reconstruction scheme broadly protects the deposits and liabilities of the bank, but calls for a writedown on its Basel III AT1 instruments at present," said Fitch.

"This may trigger another round of investor risk aversion that tightens market access and raises overall funding costs for borrowers with wholesale NBFIs likely to remain more vulnerable in this situation."

There may also be knock-on effects for NBFIs if smaller private banks start to face deteriorating depositor confidence.

Banks have been an important source of liquidity for NBFIs amid the funding squeeze in the local debt markets over the past 18 months, and any weakness in bank deposit funding will constrict liquidity available for lending to the NBFI sector.

An extended credit squeeze will likely exacerbate asset quality risks for the financial sector including NBFIs, which are already facing pressure from a general economic and property-sector slowdown, and an evolving COVID-19 situation.

The asset quality risks that have been largely centred on wholesale property development would, in Fitch's view, start to broaden if the economy becomes more adversely affected.

These events add to the challenging operating environment for Indian NBFIs with rising uncertainty over funding conditions in the near-term. This is notwithstanding recent improvement following multiple supportive measures by the authorities.

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