Life may get tougher for mid, small size HFCs amid rising rates: Analysts

Analysts warn that housing finance companies (HFCs), which cater largely to affordable housing segment, may see some margin erosion

Shares of most housing finance companies (HFCs) have underperformed at the bourses – falling between 4.3 and 36 per cent – since the announcement of the first repo rate hike by the Reserve Bank of India (RBI) on May 4. This comes on the back of fears that sharp rise in rates and higher inflation can dent the housing demand in the near-term. This, in turn, will have a trickle-down effect on the demand for home financing, fear investors.

However, analysts believe fundamentally strong HFCs would be able to tide over the rate hike cycle even as they partly absorb increased interest rates. This, they believe, will be possible as they are in a position to pass on the rate hikes to the consumers.

"HFCs' floating assets will be immediately priced upwards as interest rates increase. However, some of them have fixed rate liabilities which means that, on an aggregate level, margins may be protected. In addition, well-run HFCs enjoy pricing power to increase interest rate as cost of funds stays competitive for them," said Parag Jariwala, director (investments) at WhiteOak Capital Management.

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Home loan rates stood at around 6.5 per cent in April 2022, and have risen above 7 per cent now. Analysts expect them to be close to 8-8.5 per cent by the fiscal 2022-23 (FY23)-end.

"Given the benign starting level of home loan rates, HFCs have the ability to pass on a substantial part of increase to consumers. In our opinion, HFCs with strongest liability side franchises will come out better than their other counterparts," said Ashish Kandelia, Founder at Certus Capital and Earnnest.me.

The other tailwind for HFCs could be robust real estate demand, believes Ajit Mishra, vice president-research at Religare Broking. Since the interest rates, according to him, are still within comfortable limits, he expects only serious home buyers to remain in play.

Jariwala of WhiteOak Capital, too, believes higher mortgage rates have not immediately impacted demand historically. Jobs growth in the formal sector has been strong and will aid ongoing revival in end housing markets, he added.

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That said, analysts warn that HFCs, which cater largely to the price-sensitive segment of affordable housing, may see some margin erosion in the short-to-medium term. According to Khandelia of Certus Capital, the home loan business is highly competitive. Therefore, to maintain growth momentum, some HFCs may choose to absorb part of this increase, impacting margins.

Kotak Institutional Equities expects affordable HFCs under their coverage to deliver a 10 to 70 bps YoY decline in net interest margin (NIM) in FY23, and further 20 bps to 100 bps dip in FY24.

"Bank borrowings (38 to 50 per cent) linked to Marginal Cost of Funds Based Lending Rate (MCLR) will get re-priced over the year; the complete impact will be reflected in FY24. While there is headroom for increased rates in the affordable segment, most affordable HFCs did not pass on the benefit of lower rates to borrowers. Hence, they may be slow in passing on rate hikes on the way up," it said in a report.

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Sharp rise in inflation, KIE said, will affect disposable income, and poses risk to recoveries in the near-term.

"We are raising our credit costs estimates marginally for the next two years. And while we expect YoY decline in credit cost on an elevated Covid-period base, rising inflation temper our bullishness," it added. KIE has an ‘Add’ rating on Aavas (fair value of Rs 2,150) and Aptus Value (Rs 275), and ‘Buy’ on Home First (FV Rs 910).