Small credit business finds new ways as unsecured loan growth ebbs

Firms that create differentiated risk assessments and invest in quality solutions will win, say industry executives

“Bank credit lines to firms like ours have dried up. Co-lending continues to be fine, but running a standalone book is proving to be difficult,” says a candid V Raman Kumar, founder-chairman, CASHe. The vendor of “quick” personal loans, buy-now-pay-later, and credit-line services has seen its assets shrink to around Rs 1,000 crore, down by Rs 300 crore a year ago. The plot on unsecured lending changed after Mint Road upped risk weights on the business in November: To 125 per cent from 100 per cent (and on credit cards to 150 per cent from 125 per cent). But what hit the likes of CASHe was the 25 percentage point higher risk weighting for loans to non-banking financial companies (NBFCs). This has caused pain on both the assets and liabilities side.

Last Friday, Reserve Bank of India (RBI) data on ‘sectoral deployment of credit’ said retail loan growth had moderated to 17.4 per cent year-on-year in April 2024 (from 19.4 per cent). But the figures for “other personal loans” (largely unsecured credit) came down much more sharply at 17.1 per cent (25.7 per cent).

‘Herding behaviour’

In the run-up to its November move, Mint Road studied the retail book growth of a few banks and NFBCs over a five-year period. Some banks’ retail exposure had been growing at an annual rate of more than 60 per cent with the share of the book in excess of 50 per cent. A hint of what was in store came in the ‘Report on Trend and Progress of Banking in India (FY22)’: That in recent years banks appear to have displayed “herding behaviour” in diverting lending away from the industrial sector towards retail loans. “Empirical evidence suggests a build-up of concentration in retail loans may become a source of systemic risk,” it noted.

Retail credit will continue to be the fastest-growing segment for banks, but it will feel the drag of lower growth in the unsecured consumer credit “as they (banks) realign their strategies following the regulatory stipulation of additional 25 percentage points in risk weighting and strengthen their underwriting processes to counter a potential rise in delinquencies,” says Ajit Velonie, senior director, CRISIL Ratings. A technical reason why retail will still be in the limelight is that on the supply side “lenders are well capitalised to absorb the increased risk weights for meeting capital adequacy norms,” explains Rohan Lakhaiyar, partner (financial services-risk), Grant Thornton Bharat. The net interest margin in personal loans allows lenders to absorb the increase in the cost of capital.

Retail lending spike

That said, there is a blind spot: What’s going on in the unsecured segment at the granular level, especially for loans under Rs 50,000. The RBI’s ‘Financial Stability Report’ of December 2023 found 42.7 per cent of customers availing of consumption loans were servicing three “live loans” at the time of origination; 30.4 per cent had availed of more than three loans in the preceding six months. And 7.3 per cent of those availing of loans below Rs 50,000 had at least an overdue personal liability. According to Moody’s Ratings, “… while household leverage is low, they (households) are borrowing more for consumption purposes, which has led to a spike in unsecured retail lending.”

“We extend such loans only to existing customers who hold a salary or pension account with the bank. So, the bank never felt the need to change its stance after the revision in risk weights," says Canara Bank’s Managing director and Chief Executive Officer (CEO) K Satyanarayana Raju (the bank has partly passed on to customers an increase in costs due to hike in risk weightings). Few bankers are ready to go on record, especially those in private banks: Many are on the RBI’s radar. Recall Governor Shaktikanta Das’ statement in April 2023 that the RBI was looking at banks’ business models to flag deficiencies.

Now what of personal loans under Rs 50,000 as a segment? Despite the RBI’s move, the demand for it continues to be serviced, particularly by fintech. That’s because a new set of players are in the game – ranging from know-your-customer (KYC) firms to debt collectors.

Ask Ashok Hariharan, co-founder and CEO of IDfy, his sense of how lenders are going to approach the segment, and he tells you: Given the tight margins in the Rs 50,000 segment, there’s a tendency to focus on cheaper point solutions which can compromise performance and security. Those players who truly create differentiated risk assessments and invest in quality solutions will win in the subprime segment. “One way to upgrade KYC norms for profiling the new to credit is to leverage alternative data sources and advanced analytics. Instead of solely relying on traditional documents, lenders can triangulate customer parameters against non-traditional data points such as geographic risk data and employer risk assessment to build a comprehensive profile of the borrower,” says Hariharan. 

For Freed, a debt relief startup that has raised $10 million in funding, unsecured play is a business opportunity. Ritesh Srivastava, the firm’s founder and CEO, says: “The risk weight increase will mean that, finally, the costs will be borne by the end user. It follows that many will find this a burden to service, leading to stress build-­­­­up and possible default. Eventually, these borrowers will sign up with us.”