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Business News/ Opinion / The great Indian home loan puzzle

The great Indian home loan puzzle

Competition is welcome and the drop in interest rates will help expanding the home loan market but there are a few key questions about whether lenders will be able to sustain it

At the moment, we are witnessing a rate war on the Rs13 trillion home loan market. Photo: BloombergPremium
At the moment, we are witnessing a rate war on the Rs13 trillion home loan market. Photo: Bloomberg

In October 2003, Romesh Sobti, then executive vice-president of ABN Amro Bank (now he heads IndusInd Bank Ltd) took the Indian mortgage market by storm, announcing home loans at 6% in the first year and 6.5% in the second year—around 1.75 percentage points lower than the prevailing home loan rate, offered by larger banks and housing finance companies. A newspaper headline screamed, “ABN Amro hits a sixer".

Undercutting competition by a wide margin, ABN Amro wanted to build a retail portfolio and expand the market. The equated monthly instalment (EMI) dropped to as low as Rs717 per Rs1 lakh for a 20-year loan. At that time, poaching customers from other banks was not easy as a prepayment penalty was involved if the customers wanted to shift from one bank to another.

The Dutch bank started a pilot project in Delhi and eventually wanted to be among top five on the home loan turf but we did not hear much after this. (In October 2007, its parent was acquired by a consortium of banks and the Indian business came under the fold of Royal Bank of Scotland, which made its exit from the country in 2016).

Six years later, after the ABN Amro gamble, in August 2009, when the world was in the grip of a recession, O.P. Bhatt, then chairman of State Bank of India (SBI), launched another unique scheme for home loans—the teaser home loan, at 8-8.5% for the first three years. Amid concerns expressed by the Reserve Bank of India (RBI), the bank withdrew the scheme in May 2011 and replaced it by floating interest rate loans on a par with other commercial banks—between 9.5% and 10.25%.

Around the time when Sobti eyed the home loan market, then IDBI Bank Ltd boss Gunit Chadha toyed with a different experiment. The bank started giving loans covering the price of the property and even its stamp duty and registration cost, setting aside the concept of loan to value or LTV where the lender keeps a margin and the home buyer needs to put in her own money to part-finance it.

Currently, banks finance up to 90% of the cost of a house worth Rs30 lakh, 80% for loans above Rs30 lakh and up to Rs75 lakh, and 75% above that. The IDBI Bank scheme too attracted the regulator’s glare.

In the recent past, SBI started offering 0.05% discount to women customers and most other lenders, including the Housing Development Finance Corp. Ltd (HDFC), India’s oldest mortgage firm which disbursed its first loan in 1978, emulated that.

At the moment, we are witnessing a rate war on the Rs13 trillion home loan market. A rate war per se is not new but there are quite a few new dimensions in this round.

l Almost every lender has joined it either through cutting rates or tweaking the products.

l This is driven by liquidity as every bank is flooded with money following the so-called demonetization exercise in which Rs1000 and Rs500 notes which accounted for 86% of the currency in circulation are being replaced. Banks’ year-on-year deposit growth, which was 9.8% till October-end jumped to 14.7% in the third week of January.

l Finally, along with expansion of the market, lenders are poaching each other’s customers freely as there is no prepayment penalty for the customers. The only cost a borrower incurs is the so-called memorandum of deposit charges payable to the state government. This could vary between 0.2% and 0.5% of the loan amount being transferred.

SBI made the first move by cutting its one-year marginal cost of funds based lending rate or MCLR—the anchor for all loans—by a massive 0.9% to 8%. It is now offering loans for home loans up to Rs75 lakh at 8.65%; for women borrowers, it is 8.6%. For loans above Rs75 lakh, the rate is 8.7% for men and 8.65% for women.

HDFC and most others have matched it but Punjab National Bank (PNB) is offering a lower rate—8.50% for all home loans, irrespective of the amount. Interestingly, PNB’s MCLR is higher than SBI’s—8.45%, down 0.7% from its December level.

Still, it could offer a cheaper home loan rate than SBI because it is keeping only 0.05% spread over MCLR for home loans while SBI has jacked up its spread from 0.35% to 0.65%. Its home loan rate has not come down as much as its MCLR.

Bank of Baroda has gone one step ahead and is offering home loans at its MCLR—8.35%, lowest in the market. It has linked the home loan rate to a borrower’s credit score . The best-rated borrowers (with credit score over 760 points) will get home loans at this rate. Lower-rated customers will have to pay more; it could be as much as 9.35%.

Indian mortgage firms have been talking about rating of individual borrowers and they do check the credit history of customers with Credit Information Bureau of India and other credit bureaus but so far none has linked the cost of loan to an individual borrower’s rating. Typically, the lenders look at the repayment capacity of a borrower and as long as her total outgo towards repayment of loans (not home loan alone; could be other loans such as personal loans, education loans, auto loans, etc.) is about 45% to 50% of income, the lenders have no concerns in granting home loans. Bank of Baroda has changed the rules of the game.

When very few companies are making fresh investments, many large corporations are laden with huge debts and most banks’ corporate loan portfolios are shrinking, bankers expect the retail business to come in handy for balance sheet growth. Going by the September end data, SBI with little more than Rs2 trillion home loan portfolio is the largest lender in the mortgage market, followed by HDFC (Rs1.93 trillion), LIC Housing Finance Corp. Ltd (Rs1.27 trillion) and ICICI Bank Ltd (Rs1.18 trillion). Other lenders with a relatively large mortgage portfolio are Axis Bank Ltd, Indiabulls Housing Finance Ltd and Dewan Housing Finance Corp. Ltd.

The Indian home loan market consists of 76 housing finance companies and state-owned as well as private banks. In the affordable housing finance market, there are one and half a dozen new entrants in addition to the 14 existing lenders.

A burgeoning middle class, rising disposable income and support from the government in terms of interest rate subsidy as well as tax reliefs have increased the affordability of homes in Asia’s third-largest economy. While the market has been growing around 18% every year, there has not been a significant drop in the average age of the customers. For instance, at HDFC, it has come down from 42 to 38 in past 25 years. The reason behind this is the rising real estate prices.

Apart from the cost of a property, there are other costs in terms of stamp duty, brokerage, registration, parking and refurbishing a new home, among others. A home buyer typically ends up spending around 35- 40% of the total cost to make it livable. Not too many people have that kind of savings at a young age.

I am sure that aggression of lenders is being accompanied by good housekeeping in terms of appraisal processes and storage of documents. This is a must to prevent frauds and earning confidence of the borrowers.

Competition is welcome and indeed, the drop in interest rates will help expanding the market but there are a few key questions. Some of the smaller housing finance companies are now offering home loans at a rate lower than the cost of the funds they had raised from the market a couple of months ago. How will they sustain the low rate? Will the banks be able to maintain the current rate when liquidity dries up? If not, would a sudden jump in the mortgage rate after a year or two put pressure on the borrowers and affect the quality of banks’ assets?

Tamal Bandyopadhyay, consulting editor at Mint, is adviser to Bandhan Bank. He is also the author of A Bank for the Buck, Sahara: The Untold Story and Bandhan: The Making of a Bank.

His Twitter handle is @tamalbandyo.

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Published: 22 Jan 2017, 11:44 PM IST
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