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Margin compression in vehicle finance to continue but nearing end

We expect our coverage universe of NBFC – Lending Financials to deliver 19%/20%/ 29% YoY growth in NII/PPoP/PAT in 1QFY24.

* In sharp contrast to the otherwise weaker trends in the first quarter of any typical fiscal year, we anticipate the disbursement momentum to remain buoyant and asset quality to remain largely stable in 1QFY24. The strong new business volumes were underpinned by a healthy underlying demand for vehicle finance, mortgages, personal loans, business loans and even gold loans.

* The adverse impact of high interest rates on prime mortgage demand has now waned with expectations of stability in interest rates. Affordable housing financiers (AHFCs) and vehicle financiers continue to deliver strong AUM growth. Gold loan NBFCs have witnessed a systemic growth in gold loan demand aided by elevated gold prices and reduced aggression from banks. We expect gold financiers to report a QoQ gold loan growth of ~4-5%. For MGFL in particular, we anticipate a sequential growth of 3-4% in the gold loan book without any compromise on yields/margins. We estimate ~17% YoY/~5.5% QoQ loan growth for our coverage universe in 1QFY24.

* Vehicle financiers will continue to report NIM compression in 1QFY24 because of liability re-pricing and the consequent increase in the CoF. However, we expect vehicle financiers to deliver NIM expansion in 2HFY24 (vs. 1H) in a stable to a declining interest rate environment anticipated over the next 9-12 months. We forecast margins for SHFL and MMFSL to sequentially decline by ~10bp while we project CIFC to report broadly stable NIMs.

* While AHFCs have started to pass on the higher interest rates to borrowers over the last 2-3 quarters, we expect them to report a stable to minor contraction in NIM because of rising CoF. Mortgage demand has been strong and prime mortgages should grow at 13-14% YoY with relatively weaker growth of ~10% YoY expected in LICHF. Large HFCs should deliver a stable to a minor improvement in NIM as the transitory lag in rate transmission is now behind.

* Within the gold financiers, while we expect NIM expansion for MGFL, we estimate the same to decline ~30bp for MUTH.

* Contrary to the historically sluggish asset quality performance visible in the first quarter, we project asset quality to remain largely stable or deteriorate marginally across NBFCs/HFCs. Cash flows (both urban and rural) have held up well and contributed to (relatively) better collection efficiencies and should lead to benign credit costs across most of the NBFCs in 1QFY24.

* Diversified lenders such as BAF, Poonawalla, LTFH, and non-vehicle segments of SHFL with presence in MSME, 2W, MFI, Consumer Finance, Pre-owned cars, and Personal loans are likely to exhibit healthy disbursement momentum, minor to no impact on NIM, and improvement in asset quality.

* We are more constructive on Vehicle Finance relative to other niche segments such as mortgages or gold loans. We continue to prefer: a) franchises that can manage their liabilities better than others to mitigate the impact on margins and b) companies with strong balance sheets and higher visibility on earnings growth. Our top picks from the sector are MMFS, CIFC, and HomeFirst.

Improved demand visibility for mortgages

* Unlike the typical 1Q, we expect the momentum in mortgages to be relatively better this quarter. With the lag in transmitting higher borrowing costs to the customers largely behind, we expect margins to expand/ stabilize in 1QFY24.

* We anticipate credit costs for LICHF to increase ~15bp QoQ while margins could moderate ~35bp sequentially led by moderation in yields (excluding any oneoffs that could potentially be there in 4QFY23).

* While we anticipate HomeFirst to report a sequential improvement in disbursements, the same could be relatively muted for AAVAS given its teething issues in implementation of the new technology platform. We expect both AAVAS and HomeFirst to report a minor compression in NIM.

* We forecast a minor improvement in asset quality for the AHFCs, leading to an improvement in GS3 and 1+dpd metrics along with benign credit costs.

Vehicle Finance – strong loan growth and stable asset quality

* The auto sector outlook has improved due to the easing of supply chain challenges and a stable domestic demand. We expect the strong domestic volume growth to persist across product categories over FY24 as most of the challenges, such as supply constraints and raw material inflation, have either receded or been resolved.

* MMFS reported disbursements of ~INR122b for 1QFY24 (+28% YoY). We expect credit costs for MMFS at 2.0% in 1QFY24 (vs. 3.9% in 1QFY23). For both CIFC/ SHTF, we estimate healthy disbursements to sustain and translate into 40%/18% YoY growth in AUM.

* MMFS reported a ~10bp QoQ improvement in its GS3. Margin compression is nearing an end and we expect NIM to expand from 2HFY24 onwards. For CIFC and SHTF, we expect vehicle finance (VF) asset quality to remain range-bound despite the weaker seasonality trends in the past.

Gold Finance – Systemic gold loan growth in 1QFY24

* We expect gold loan financiers to deliver a second consecutive quarter of healthy gold loan growth, aided by increase in gold loan prices, expansion of branches (for MUTH), recovery in gold loan demand, and a moderation in competitive intensity from banks.

* We expect sequential growth in the gold loan portfolio for both MUTH/MGFL in the range of ~4.0-4.5%. While we project the margins for MGFL to improve sequentially, we expect the same to contract for MUTH due to a slight decline in yields and rising cost of borrowings.

Diversified Financiers: Healthy demand in unsecured loans continues to drive strong loan growth

* For LTFH, we expect strong growth in retail loans, but since the wholesale segment (such as real estate and infrastructure) will continue to moderate, the consolidated loan book could decline ~4% QoQ in 1QFY24. We forecast credit costs to moderate for LTFH, leading to a sequential improvement in profitability.

* BAF has reported ~32% YoY/9% QoQ growth in its AUM. We forecast ~25bp contraction in margins for BAF along with asset quality improvement.

* We expect Poonawalla to deliver ~40% YoY growth in standalone AUM driven by ~70% YoY growth in disbursements. We estimate a 12% QoQ growth in PAT for the company aided by continued provision write-backs.

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