Last month while driving down the Western Express Highway, which connects Mumbai’s western suburbs with the city, nobody could have missed the huge hoardings of Barclays Plc., soliciting retail business of all kinds, ranging from credit cards to savings accounts. The 300-year-old British bank has recently launched its retails banking operations in India by introducing its English Premier League Card. Barclays is the second foreign bank that is planning to cash in on the rising middle class and disposable income in the world’s second fastest growing economy. About a year and a half ago, Deutsche Bank launched its retail operations in India—the sixth market outside Germany.
Nobody can challenge the reasons behind the retail chase. In March 2007, the retail portfolio of the Indian banking sector was about Rs4.5 trillion, around 10% India’s gross domestic product (GDP). Mortgages, growing more than 40% in the last three years, are just 6% of India’s GDP. The comparative figures in other countries are much higher. A recent presentation made by Housing Development Finance Corp. Ltd (HDFC) to its foreign investors says that in Denmark, mortgages or home loans are 94% of the country’s GDP, in the UK, 80%, and in the US, 71%. Among the Asian economies, it’s 50% in Hong Kong, 37% in Taiwan, 36% in Singapore, 26% in Malaysia and 16% in Thailand. In China, home loans account for about 11% of the
If one excludes home loans and focuses on other retail products such as credit card, personal loans and so on, the scope of expanding the market in India is enormous, too. For instance, in France, retail loans account for 62% of the economy and in Spain, 20%. In the emerging markets, this figure varies between 12% and 19%.
Indeed, retail is the biggest banking opportunity in India, provided the banks are able to get the pricing correct and can ramp up the volume quickly. In its first year of operations, Deutsche Bank has made a loss of Rs100 crore. HSBC’s India head Naina Lal Kidwai says retail business can make money only after a certain volume is built. HSBC has a larger portfolio than the new entrant Deutsche Bank, but even so, it has to grow in volume to make profits in the retail business. So, Barclays will take even longer to make money. Even banks that have built up a substantial retail book are believed to be facing some strain. In their over aggressiveness to build the retail book, these banks have probably lent at a rate that is unsustainable or compromised on the quality of borrowers. An international brokerage has put the percentage of non-performing loans in the personal loan segment of a large Indian bank at 7%, credit cards at 9%, mortgages at 1.3%, and other retail loans at 5.22%. These figures are not available in the public domain.
HDFC Bank managing director Aditya Puri says his bank is not seeing any strain in the retail loan segment. This is because HDFC Bank, according to him, never woos “marginal” customers who will feel pressure to pay when the loan rates go up. ICICI Bank executive director P. Vaidyanathan says the pricing of loans and the volume help the bank to always maintain the margin. He won’t be worried if the non-performing assets in personal loans go up by a few basis points as this is a high margin business and, with the rise in volume, the bank will always make enough money since the operational costs do not go up. Retail loans account for more than 50% of the balance sheets of both ICICI Bank and HDFC Bank. And HDFC Ltd managing director Keki Mistry says the extent of NPAs at India’s oldest mortgage player is negligible.
All these observations are valid. In fact, India’s mortgage market is unique in many ways. First, the loan to value ratio is always modest. And since most home buyers end up paying a certain amount in cash, the actual loan to value ratio is even lower than is officially known. For instance, if a consumer is showing the price of the flat that she is buying as Rs50 lakh, she may have paid another Rs10 lakh or so in cash to the builder. So, when she takes a home loan of Rs40 lakh (80% of the value of the property), she is actually putting in 33% of her own equity (Rs20 lakh of Rs60 lakh), and not 20%. After taking possession of the flat, she normally spends more money to do it up and that again raises her equity in the property. So, a bank can always recover its money by selling the property in the event of a default.
Secondly, unlike in the US, no Indian bank or pure mortgage player offers the interest-only payment option to consumers. In the US, where mortgages account for more than 70% of GDP, interest-only payment is a very popular product. Here the consumers pay only interest for the first few years. So, in case of a default, the bank may end up booking losses even after taking over the property and selling it, in case the price of the property has gone down. In the Indian context, part of the equated monthly instalments (EMIs) that a home loan borrower pays always goes towards payment of the principal amount. With the passing of each year (normally, home loans can have maturity between five and 20 years), the principal component goes down, making it easier for banks to recover their money in case of a default.
Two other factors that contribute to the robustness of the Indian mortgage market is the rising income level and lowering of average age of home loan consumers. In 1995, the average price of a property was 22 times the annual income of a home buyer. Now, it is 5.1 times. And the average age of a borrower has come down from 43 in 2000 to 35-36 now. Despite this, we are not particularly in the comfort zone in the mortgage market. The subprime debacle will not hit us, but the Indian market has other worries. More about this next week.
Tamal Bandyopadhyay keeps a close eye on all things banking from his perch as the Mumbai Bureau Chief of Mint. Please email comments to firstname.lastname@example.org