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Affordable housing is not about box-sized, budget homes in far-flung places, where there is no connectivity to work places and little surrounding infrastructure. Affordable housing has to be able to cut across all income segments and has to make economic sense in terms of proximity to work place. The agenda for affordable housing requires a combined publicprivate collaboration and a strong political will to enforce change… Excerpts from Deepak Parekh, Chairman HDFC address to its shareholders in 2009

We initiate coverage on the affordable housing finance sector, buttressed as it by an estimated financing opportunity at Rs50-60tn, making room for many players. Affordable housing financiers (AHF) have reported stellar growth rates (historically), and with technology at centre stage and a less-served clientele and underpenetrated credit market, the new-age lenders certainly have a promising future. Starting with a low base, plentiful capital, niche clientele and reach, the success of the AHF model is contingent on their ability to manage 3Cs (cost of capital, operating costs, and credit costs), and hence healthy steady state ROE, amply demonstrated by the hugely successful Gruh Finance. We envisage promising tailwinds, favourable sector dynamics and superior ROE expansion, but partially dampened by the already steep valuations. Initiate with Accumulate on Home First Finance (preferred bet) and Reduce on Aavas Financiers.

* 95% of housing shortage in EWS-LIG segment: With housing shortage pegged at 100mn units by 2022, agencies have estimated an incremental lending opportunity of Rs50-60tn (vs. ~Rs23tn as at FY21). 95% of the said housing shortage is in the EWS-LIG segments, the key area of focus for the AHF. GOI initiatives on addressing the credit gap/housing shortage has seen the affordable housing finance market rise manifold to Rs9tn (FY21P vs. Rs5tn in FY15). Flagship programme (PMAY), enhancement of laws - RERA, GST, improving macro and incoming data, stand as key drivers of strong asset growth.

* New-age AHF: 3Cs vital from RoE expansion: Even as they appeared much later than the much larger traditional HFCs, AHF have created an effective niche by catering to the under-served / new-to-credit customers in the less competitive EWS-LIG category. With demand relatively less sensitive to interest rates, the strategy has played out well for margins and ROA. ROE that has remained low (11-12%) though can steadily inch up a) as excess capital gets deployed, b) economies of scale reduce unit operating costs and c) tech-backed lending stabilises and controls credit costs. We see ROE at 14-15% in the medium-term, and a more sustainable ROE at 17-18% as the above-mentioned factors play out.

* Gruh Finance –new-age AHF can aspire for the success story: The success of Gruh Finance’s lending model (20%+ loan / earnings growth, pristine asset quality and 25%+ RoE over FY09-19) has seen stock trade at a significant valuation premium to other mainstream HFCs and NBFCs. Drawing parallels to Gruh Finance model and mirroring of some of these aspects by the new-age AHF lenders, investors have attributed premium valuations to these entities. Available indications suggest that AHF should be able to sustain their performance, and some deliver a Gruh redux.

* Initiate coverage on the sector: – We initiate coverage on new-age affordable housing financiers that are heavily tech-focused and have built successful business models despite catering to a risky segment. We rate Home First Finance (HFFC) an ACCUMULATE and TP of Rs900. Initiate with a REDUCE on Aavas Financiers (Aavas) with a TP of Rs2,360. We believe Aptus Value Housing Finance (Unrated) fair value is at Rs425. Key risks: lower than expected loan growth, increased competition and its impact on margins, delinquencies following external factors.

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