The entry of new players in the retail lending space is proving to be a challenge for non-banking lenders as they face competition from banks and fintech companies alike.

Retail loans have been a high growth segment for lenders across the board, amid muted demand from corporates and MSMEs, which are still emerging from pandemic-related challenges. This has led to more players looking to enter the space, both for growth and to diversify their portfolios away from wholesale loans.

“We’ve seen that [retail] space getting quite busy. When you have a particular segment that is attracting players from across the board, there is bound to be some degree of overcrowding,” said Saswata Guha, Senior Director, Financial Institutions at Fitch Ratings.

These new players, including banks and NBFCs, are operating at lower interest rates to acquire customers, according to industry players. This lending is either directly or through tie-ups because banks may not always want to compete with NBFCs due to the lower margins in these loan segments, or because the segment is a small portfolio for these banks.

This had made doing business harder for non-banking lenders that have smaller balance sheets or those that have portfolio concentration in certain retail product segments. These entities are now questioning whether this aggressive lending model is sustainable as any fallout will also impact consumer sentiment for the financial services sector.

Two-wheeler loans

The scenario seems to be especially worrisome for two-wheeler financiers, who claim that the aggressive underwriting by newer players has impacted their pricing capabilities, which may, in turn, result in margin pressure for existing lenders in the segment.

“For everyone in the market, two-wheeler looks like a beautiful product with its yields and shorter tenure. They think that it is a solution to their wholesale problems, so you have everybody from a bank to a new-born NBFC trying to get into this space,” said YS Chakravarti, MD and CEO of Shriram City Union Finance.

He added that while the entry of new players in the two-wheeler space has not take away from their business, it has led to muted growth especially amid subdued demand for credit.

Two-wheeler loans is a very retail business with high overhead costs that involve time consuming underwriting processes including assessing borrowers’ cash flow and financials, industry players said.

While the entry of new players has increased funding avenues for customers, the lack of sufficient background checks and field investigation has raised questions regarding the underlying quality of the loans being underwritten, they said.

“We would not like to go beyond the traditional means of underwriting. We have branches all over, our employees know the local people. There is also a price mechanism for riskier borrowers or accounts, which I don’t know if fintechs can take care of because they mostly rely on CIBIL score and basic checks,” said Thomas Muthoot, Executive Director at Muthoot Fincorp.

Other retail loans

A similar impact is also being seen in other segments where there has been an influx of new players--such as gold, personal and housing loans, albeit to a smaller extent.

In gold loans, NBFCs have a competitive advantage because customers that have an urgent requirement of funds, usually come to traditional, established or niche players, even if they might go to banks for longer tenure loans or those of a higher amount, industry players said.

“We get repeated customers and new customer acquisition is also good, but there is also a good market for higher amount gold loans which are normally serviced by banks. Banks have been very aggressive also, especially banks from Kerala,” said Muthoot.

He added that while the gold loan segment may look “easy from the outside”, it is difficult to garner growth year after year because of the lack of a fixed tenure and usually short business cycles. Here, traditional players have some advantage because of their product flexibility.

As a result, while specialised or established lenders may continue to hold their own given their market leadership and expertise, the smaller players may be harder hit owing to the increased competition.

“NBFCs which have a more commoditised product portfolio are certainly going to feel the pinch from the competition coming from banks, because it is very difficult to compete against banks’ funding profile,” Guha said.

Most banks are sitting on high levels of low cost and retail term deposits, which gives them pricing advantage over non-banks, which are primarily reliant on wholesale funding, he added.

Cyclical nature of business

In addition to the sustainability of the business being underwritten by fintechs, industry players are also concerned that aggressive lending to a certain segment of customers could pose challenges to the overall loan quality of the segment in the long-run, despite lenders’ underwriting processes having tightened in recent years.

In the last 3 years, retail loans have grown in multiples of overall sector loan growth. When entities grow so fast, there is bound to be some concern on the underwriting quality of loans, said Guha.

“If a bank say, is growing at 16-18% quarter on quarter, it does raise questions on how well is the current risk or underwriting infrastructure able to cope with it,” he added.

Banks’ retail loans, or those categorised as ‘personal loans’ by the RBI registered an on-year growth 18 per cent as of Jun 17 compared with 12 per cent in the year ago period, as per the latest regulatory data. Within this, consumer durable loans grew a whopping 77 per cent, housing loans by 15 per cent, vehicle loans by 18 per cent and other personal loans by 24 per cent.

However, asset quality challenges are still some time away and could play out over a few years, according to market participants. This is because of the cyclical nature of the business, overall low levels of household leverage and given that retail loan quality has held up so far despite several challenges including the pandemic, they said.

“It’s a cycle, it keeps happening. People come in, they stay for 5-6 years they understand it’s not an easy business, they lose interest and start shutting it down. It has happened before and it is also happening right now,” said Chakravarti.

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