Institutional investors in the debt market are gradually gaining confidence about looking beyond traditional government and highly-rated corporate debt to bonds and other debt instruments issued by non-banking finance companies (NBFCs) and microfinance institutions (MFIs). NBFCs and MFIs are also helping create this new market, either by issuing debentures or pooling their debt assets.

Microfin sector’s growth Amit Tripathi, Head of Fixed Income at Reliance MF, believes that the microfinance sector has come a long way since its implosion in 2010. After its regulatory overhaul (the sector is now overseen by the central bank), “in terms of capitalisation,” Tripathi said, “large MFIs are today at par with mid-sized NBFCs.”

Reliance MF had invested in microfinance firm Equitas and NBFC Ujjivan Financial Services earlier this year. UTI AMC has bought bonds in Ujjivan, while Franklin Templeton AMC has subscribed to non-convertible debentures aggregating to about ₹100 crore in Equitas Finance Pvt Ltd.

Grabs big investors’ interest IFMR Capital, promoted by IFMR Trust, is an NBFC that is helping other NBFCs and MFIs raise funds through capital market players by way of NCDs, external commercial borrowings or collateralised debt obligations.

Kshama Fernandes, founder of IFMR Capital, says that while the microfinance sector has traditionally been funded by grants and social service foundations, it has now become robust enough for large mainstream investors to invest in it.

“Large capital market investors like banks, mutCual funds, insurance and pension funds or corporates, have two requirements when investing in debt — that it receive a top credit rating and a critical mass in size enabling large investments,” Fernandes said. “NBFCs and MFIs can now offer both.”

A new model that IFMR is trying to push is the Mosec — multi-originator securitisation of microfinance loans. With this instrument, IFMR Capital pools together loans from different NBFCs and MFIs of similar tenure but diversified over geographies and asset classes. These are then used to create a single debt instrument, along with a cash collateral by participating NBFCs / MFIs and IFMR itself. This is rated and sold to large investors.

Checks mass failure “The cash collateral,” Fernandes said, “it’s to ensure that all participants who have created the instrument have skin in the game. This avoids a situation like mass failure of mortgage-backed securities in the US in 2008.”

It would, however, be a while before this takes off. Amandeep Chopra, Group President and Head — Fixed Income, UTI AMC, said they are still not interested “in pooled debt instruments issued by NBFC/MFI, i.e., in asset-backed pass-through certificates. Due to lack of clarity over tax issues, the interest of MFs towards these papers stays muted.”

However, for organised and large players, UTI AMC says the regulations are clear. “Strong capital inflows from private equity and supra national bodies have improved the corporate governance, capitalisation and funding profile of these NBFC-MFIs, leading to credit upgrades in these MFIs and their pools.”