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When borrowers push banks to a corner

India is unlikely to be affected by the sub-prime lending woes of the U.S. in the property sector, says SRIKALA BHASHYAM

In the last two weeks, the U.S. sub-prime loan controversy has dominated the global media with stock markets across the world shedding 3-4 per cent in trading sessions on a routine basis. While it has already raised doubts about Indian equity market’s bull-run story, many have written asking about its impact on the Indian property scene. PropertyPlus thought it is worthwhile to make a comparison between the Indian property sector and the U.S. market in the light of c urrent scenario.

The two models

To start with, sub-prime lending is done to borrowers who do not have the credit worthiness to borrow at prime lending rate in the U.S. Thanks to the presence of efficient credit scoring model, the U.S. banks have the advantage of pricing their loan products according to the risk profile of customers. For instance, a borrower’s interest rate can vary by as much as 3-4 per cent (higher) because of poor credit score. The credit score again depends on the financial discipline, track record of borrowers over the years.

In India, on the other hand, the lending rate is fixed and there is very little variance between different set of borrowers. This is not the case when it comes to commercial loans because a large corporate walks away with an interest rate below the prime lending rate while a small or medium-sized unit has to cough up a much higher rate.

In the case of retail loans, banks tend to price their loans cheaper when they have bulk loans. For instance, if a builder has an arrangement with a bank, his customers would be offered loans which are slightly cheaper than the prevailing rate. Here again, the flexibility tends to be higher on the amount front.

The absence of pricing loans on a differential basis could prove a blessing in disguise for the Indian primary market! Here, banks don’t offer loans to customers who are not creditworthy unlike in the U.S. where a high-risk borrower too is eligible for loans at a much higher rate. Because of the sub-prime lending rate opportunity in the U.S., a number of banks and hedge funds have got themselves into a financial crisis at present.

In the case of sub-prime borrowers, a weak property market can push them to delinquencies as these borrowers would be the first to default loans.

The risk factor

Now, does it mean Indian banks don’t carry any risk of delinquencies? The answer is ‘no’ because in a rising interest rate economy coupled with falling property prices scenario, the borrower would be pushed to default on his home loan. Luckily for the Indian property buyers, interest rates are showing signs of stabilisation after a continuous rise though property prices have begun to show a decline. Bankers admit that the non-performing assets have begun to rise but the situation is manageable.

More importantly, banks in India have a cap on high-risk loan portfolio and generally these loans are not offered beyond a certain limit. Besides credit cards, two-wheeler and personal loans are considered high-risk products but banks don’t lend them beyond a limit.

As a result, India is unlikely to be affected by the sub-prime lending woes of the U.S. in the property sector. However, its effect on the equity markets is likely to continue as banks which take exposure to the U.S. market in turn have invested their liquidity in Indian equity markets.

Unlike property markets, equity markets are much more globalised. The real threat for the Indian property market would come when there is a slackening in the purchasing power of individuals. With Indian companies growing at over 20 per cent on an annual basis and salaries too rising at the rate of 12-14 per cent, the Indian property market story is intact.

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