As investors, we may be tempted to think that last few quarters should be treated as “exceptional” due to cyclones, special situation in Assam & West Bengal, and finally the Covid pandemic. It’s surely a good thing to be hopeful and try and see light at the end of the tunnel. But it may not be a bad idea to try and understand if COVID was the only reason for the current state of the industry!

Let’s rewind a little to 2018 The NBFC sector was the epicenter of the IL&FS storm, when credit markets froze in Sep, 2018. Even the well-run NBFCs were lying low and waiting for the tide to subside. But one sub-sector seemed to be quite unaffected and never faced funding crunch, thanks to the priority sector status. The MFIs became the darlings of investors – unfazed, unaffected, and delivering on the promise of 30% CAGR and sub 2% credit losses for the entire FY19 and FY20!

Source: Company presentations

Did the average rural customer need so much money?

The MFI sector was flush with funds, both debt and equity. And they were in a hurry to grow and deliver on the 30% CAGR promise. The MFIs wasted no time and took the path to easy growth i.e.lend more to the same set of existing clients. Bandhan Bank increased its ticket size by 2-3x under the narrative of “completely dominating” the ustomer; Credit Access designed innovative products to lend more to the same customer.

Ultimately, there was low consideration for the basic question i.e. did the rural borrower need so much money? And will she be able to repay? A look at the below table can summarize what transpired in the microfinance sector in the five years preceding the pandemic. Given the slowness in Indian economy, an average rural household could only grow its income by 23%. However, his outstanding debt increased by 106% over that period, thanks to the zealous growth targets of MFIs.

Source: Economic Times, MFIN, SADHAN

Overleveraged customer could be the bigger cause; Covid was just the trigger!

As we saw in the table above, we might be in a situation where millions of rural folks have more loans on their heads than they could afford to repay. And then Covid struck. While Covid is no small event, we do know that even a medium sized pot-hole is enough to topple an overloaded vehicle. The signs of stress among the borrowers are clearly visible from the decline in repayment rates over the years. Most of the MFIs explained that they are giving longer duration loans but that doesn’t explain the extent of drop in collections.

Source: Company data, GreenEdge

Is there light at the end of the tunnel?

The current outcome is a far cry from original promise of the microfinance model i.e. there is tremendous growth opportunity in rural India; and that lending exclusively to groups of women is an extremely low risk model. Four large MFIs have reported combined provisions / losses of ~Rs6,000crs or 7% of their pre-Covid portfolio and the damage caused by the 2 nd wave is yet to unfold.

Source: Company data, GreenEdge

We need to understand that an average rural Indian family cannot remain unscathed when faced with two bad events in a single year. Hence, microfinance companies may experience similar levels of pain in FY22 as well. But the good part about all the external problems is that they come to an end.

The 2 nd wave will end in a few months and most of these large companies either have a strong capital base or will raise capital to absorb the losses. The regulator on its part is doing all it can to ensure that MFIs have access to liquidity till the pandemic ends. Hence, the worst will be over in FY22. The stock prices & valuations of these MFIs somewhat reflect this optimism.

Source: Based of Mar’21 financials

The bigger question for the long-term investors should be “is it sustainable to grow at 30-40% when your under-lying customer is growing only at 6-8%”. In the past, investors have expected nothing less than 30% growth from MFIs and managements have promised only more! Microfinance sector will continue to see boom & burst cycles unless growth ambitions & aspirations are re-calibrated.

GreenEdge’s View on Gold

Gold has been accepted as a store of value since the last ~5,000 years in the minds of human beings. No other currency can boast of such a feat. (We all know the fate of crytos, bitcoins today after the initial hoopla surrounding it. You can read our Bitcoin article here – Memo 22: Bitcoins – Better or Bitter?)Gold is a hedge against inflation, war, famines, geo-political risks and possible human madness :). Hence, at GreenEdge, we believe that 5-10% of an individual’s total wealth should be allocated to gold.

In India, we are love-struck with gold jewellery as a form of exposure to gold but Sovereign Gold Bonds offer an attractive option to take exposure to gold. You can invest in the Series V of Sovereign Gold Bond which is open for subscription from 14th Jan, 2019 to 18th Jan, 2019.

Advantages of Investing in Gold Bonds vs Other Gold options

1. Capital Appreciation + Interest – The scheme not only offers capital appreciation on value of gold but also offers an annual interest of 2.5% which is payable semi-annually. Jewellery, gold coins, bars, gold ETFs, funds do not offer any interest.

2. Cost Savings –Transaction charges (including making charges) in jewellery can be 25-30%, whereas in gold coins/ bars can be as high as 13-15%.Gold ETFs/ funds attract expense ratios of ~1%. Gold bonds score over these options with low transaction costs & NIL expense ratios

3. Storage & Purity – Unlike physical gold, gold bonds can be stored in demat form or as a certificate. Risks of theft/ impurities don’t exist in gold bonds unlike physical gold.

Features of the Scheme

1. Limits – Minimum & maximum investment is 1 gm & 4kg respectively per fiscal year. Each bond is equivalent to 1 gm of gold. In the current series V of gold bond which is open for subscription, the issue price is Rs. 3,214 per gram/ bond. Online application will attract Rs 50 discount taking issue price at Rs. 3, 164 per gram/ bond.

2. Pre-Mature withdrawal – The tenor of the gold bond is for 8 yrs; however, it’s possible to do a pre-mature withdrawal on interest payment dates in 5th, 6th& 7th year from date of issue. The bonds can also be sold on secondary market via NSE/ BSE subject to available liquidity.

3. Taxation – The periodical interest received on bonds are taxable but capital gains made at the time of maturity are tax-exempt. In case of pre-mature withdrawal, indexation benefits can be availed while calculating long-term capital gains.

4. Application – It can be done online (can be purchased/ sold on NSE/ BSE) or by filling a physical form

Feel free to reach out in case you wish to seek professional help for planning your finances systematically – https://greenedgewealth.com/financial-planning/

It’s not just the IPO market which is buzzing, but also the debt market, which is providing back-to-back opportunities not only to lock-in your monies at higher fixed interest rates vs. Bank FDs but are also offering scope for capital appreciation. The last 3 months saw the launch of Edelweiss Housing Finance NCD & Mahindra & Mahindra Financial Services NCDs, while August will witness the launch of Dewan Housing Finance Ltd’s (DHFL) Non-Convertible Debenture (NCD).

DHFL is a housing finance company focused on lending to low-and-mid-income customers in India’s tier-2 & tier-3 towns and cities.

Details of Dewan Housing Finance Ltd’sNon Convertible Debenture (NCD) Issue

This NCD issue is being offered for a tenor of 3, 5 & 10 yrs with corresponding effective yields of 9.2%, 9.25% & 9.3% per annum respectively for retail/ HNI investors. Further details of the issue are mentioned below.

*Effective yield per annum for both Retail & HNI Investors

***For the 1st year and subject to reset annually based on Reference CPI for the 2ndand 3rd years

Source – Company

The interesting feature is the introduction of floating interest rates linked to inflation as mentioned in Consumer Price Index (CPI) for 3 year tenor. The Retail & HNI investors will be paid CPI+4.18% pa in this feature.

Source – Company

How to Apply to the Issue?

The bonds will be issued in a dematerialized or physical format For those applying to the issue in the physical mode, PAN copy, address proof and cancelled cheque also need to be submitted alongwith the application form.

1. ASBA (Application Supported by Blocked Amount) facility can be used to apply in demat form only

a.Online – Electronic application forms can be downloaded from websites of SCSBs that permit submission of ASBA applications electronically. These forms will be available on their websites at least 1 day prior to issue opening date.

b.Physical Form – Application forms can be filled and submitted to Brokers, Lead Managers, Members of Syndicate or Trading Members at select locations/ designated branches

Please note that ASBA applicants can make an Application for allotment of NCDs in demat form only

2. Non-ASBA applicants – Application for allotment of NCD in physical mode can only be made through non-ASBA medium

a.Online – The direct online application facility through stock exchange will not be available.

b.Physical Form – Application forms can be filled and submitted to Brokers, Lead Managers, Members of Syndicate or Trading Members at select locations/ designated branches

You may reach out to us in case you are facing difficulties in filling/ submitting the application.

GreenEdge Wealth Services’ View – Should You Invest in DHFL’s NCD?

These NCDs score over bank FDs as they offer ~2 to 2.5% higher rates vs. Bank FDs to Retail/ HNI investors. The interest earned from these NCDs will attract marginal tax rates similar to bank FDs.

The tenor of 3, 5 & 10 years is certainly long but there is an opportunity to exit this investment before maturity in the secondary market (the issue will get listed on NSE) and earn capital gains. If the interest rates in the market declines, then bond price could increase & one could book profits by selling it in the secondary market (decent liquidity available) – This profit will be taxed as per your marginal tax rate if holding period is less than 1 year else it’ll be taxed @ 10% without indexation.

In our view, retail/ HNI investors can allocate a small portion of their fixed income portfolio to DHFL’s NCDs as they offer higher interest rates vs. Bank FDs with high safety (AAA rated) combined with opportunity to exit before maturity and earn capital gains in secondary market.

Also, please note that this issue is on First-come-First-Serve basis; so you should apply on the ‘issue open date’ itself!