SNAPSHOT OF THE INDIAN HOUSING FINANCE SECTOR
The housing sector plays an important role in the economic development of the country. every rupee
invested in housing adds 78 paise to the GDP. Over 269 industries are directly or indirectly dependent on the housing sector. There is an estimated shortage of 20 million housing units in the country with an estimated investment requirement of over Rs 1500 billion.
In this context it is important to note that the organized housing finance industry barely accounts for 30% of the home loans disbursed in the country. the last few years have seen the home loans growing at a CAGR of over 30%.
2000-01 2001-02 2002-03 2003-04
Housing finance companies (HFCs)
12637.85 14614.44 17832.01 20862.23
(15.64) (22.02) (16.99)
5553.11 8566.41 23555.37 32816.39
(54.26) (174.97) (39.33)
Co-operative sector institutions
867.72 677.58 641.48 623.08
(-21.91) (-5.33) (-2.87)
19058.68 23858.43 42026.86 54301.70
(25.18) (76.15) (29.21)
The growth has been mainly fuelled by certain fiscal, social and regulatory drivers like:
Changes in demographic profile including increase in the rate of household formation due to structural shift from joint family system to nuclear family
Ever increasing middle class, migration of population and increasing urbanization resulting in acute shortage of housing units
Increase in disposable income levels due to decrease in marginal tax rates and increase in total income levels
Tax benefits and other fiscal incentives announced in the Union Budgets
Increasing affordability of housing property due to declining interest rates.
Aggressive lending by banks to the housing sector due to lower credit offtake by the corporate sector, attractive spread and lower non performing assets
The major players in Indian housing finance industry are the housing finance companies (HFCs), scheduled commercial banks and co-operative banks. Banks despite being a late entrant have overtaken the HFCs in the home loan market. The share of banks in total home loan disbursements has risen from 43.6% in the year 2000-01 to 65.5% in 2003-04.
In the recent years, the business process outsourcing, information technology-enabled services and call center sectors have driven the country’s commercial property market. It is estimated that these demand for space from companies offering such services will reach 100 million square feet in the next three to four years. Meanwhile, the demand for dwelling units will grow to 90 million square feet by 2020.
The present market growth is expected to continue into next year, driven mainly salaried class people who are looking to own houses and upgrade their standard of living. This year is likely to yield price rises in the range of 5% to 10%, according to Cushman and Wakefield, an international property consultancy. The real estate sector is expected to continue to out perform other segments for the next three years. Amusement, shopping, tourism and related sectors are also likely to witness huge growth in the next few years, especially in the national capital region, which will host the 2010 Commonwealth Games.
As the economic environment improves the overall sector should grow at about 20% per annum to between US$45 billion by 2010 from the present US$12 billion, according to merchant bank Merrill Lynch. To achieve such growth, the sector will require huge investments over the next five years. By 2015, the market size is projected to grow to about US$90 billion.
FUTURE DIRECTION OF HOUSING FINANCE RATES
Movement of Housing Finance Rates In The Short Run
Though for the most part of 2004, interest rates on housing loans showed a downward trend, HFCs and the banks in the last few months increased their interest rates by 0.25-0.5%. the floating home loan rates have increased from 7.75 percent to 8.25 percent, while fixed rates have gone up from 9% to 9.5%.
The liquidity crunch that began in December 2005 continued in February 2006. RBI provided an average Rs 15000 Crore liquidity per day to the banking system through repo auctions during February. Earlier, Rs 13500 crore and Rs 15000 were provided in the second half of December and in January respectively. In response to poor liquidity condition, RBI also cancelled all auctions of treasury bills under MSS in February in 2006. Earlier, in December and January also several such auctions were cancelled.
Liquidity pressures have pushed up call money rates and yield on treasury bills. In Feb 2006, the yield on 91 day treasury bills was higher in the range of 6.55-6.67% as compared to 5.93-6.67% in Jan 2006 and 5.72-6.01% in Dec 2005. The yield on 364-day treasury bills was up in the range of 6.72-6.79% in Feb 2006 as against 6.11-6.28% in the preceding month. Weighted average call money rates reached a 35 month high of 6.87% in Feb 2006. Call money has moved upward from 4.97% in August 2005.
In the face of these developments, several banks have hiked their Sub-PLR rates in the preceding few months.
Factors influencing changes in interest rates seem evenly poised.
Government Borrowing – Decrease in interest rates
The lower fiscal deficit for 2006 – 07 implies that the markets would be less strained with government borrowing. The higher growth in money supply compared to official targets indicates the governments willingness to let liquidity flows.
Inflation – Decrease in interest rates
The prevailing the low inflation rates have only helped in maintaining such a stance. The RBI is actively engaged in ensuring that the markets do not suffer a worsening of the liquidity situation by providing additional liquidity.
(3) Credit deposit ratio – Increase in interest rates
Policy initiatives faced a crunch caused by deposits growing by only 17% when credit is expending at 33%. The credit deposit – growth gap is widening. There is no sign of a let-up of credit expansion.
The liquidity crisis may push the interest rates on home loans further up.
As the banks and housing finance companies are facing liquidity crisis, lending rates are likely to go up. In march, liquidity condition remains tight. But, this year, the situation is really bad. Because of the liquidity crunch in the market, banks and finance companies are not getting deposits.
To meet the demand, they are taking corporate deposits at 0.5-1% higher than the rates for the retail deposits. But, this has increased cost of incremental fund.
Thus, if the liquidity condition does not improve, banks and finance companies would be forced to increase the interest rates further in April 2006.
HDFC had increased its floating home loan rate in February by half a percentage point to 8.25%. ICICI bank also increased its rates twice by half a percentage points each in the last one month to 8.75%. Other banks like SBI, PNB and LIC Housing Finance have also hiked the rate. However, bankers feel that the present liquidity situation is a temporary phenomenon and would get over soon.
Movement of housing finance rates in the long run
Today the market is much more comfortable in taking a view on the long term interest rates than it was two to three years ago. An indication of this is that today the most liquid Government Securities are between 5 to 12 year maturity and even 15 to 20 years maturity papers are regularly traded. The RBI slowly but steadily is getting higher autonomy in managing monetary system. This is evident in ways and means advance system, placement of borrowing program and reforms in Gilt market etc.
Going back to economic fundamentals the three factors which affect interest rates particularly in the Indian context are – inflation, Governments borrowing and credit pick up
Inflation – decrease in interest rates
Today inflation is begin due to lower commodity prices. It is expected to remain stable and hover around 5% band in future. The recent hike in diesel prices did not have any material impact on the inflation rate. We are confident of the RBI’s ability to keep inflation under check in future. Thus interest rates will witness stable to downward bias on inflation side.
Government borrowing – decrease in interest rates
The governments borrowing program is the most important factor affecting interest rates. the size and pace of governments borrowing program can alter money supply equilibrium or crowd out private sector requirements. The government targets to reduce the fiscal deficit and is being successful in the attempt.
Credit pick up – decrease in interest rates
The private sector credit is not showing good pick up commensurate with the economic growth as the companies have learnt to operate on trimmed working capital. Many issuance’s this year were for refinancing their existing high interest bearing loans.
Thus, Overall interest rates are expected to stabilize on back of low inflation, stable rupee and RBIs active management of monetary system.
A floating rate loan can cost any where between 8.25-8.75% and a fixed loan could cost 9.25-10%. The spread still looms large at 1%, and involves a cost of 1-2% for switching.
But experts believe that rates will only go up by another 50-100 bps. Strong economic growth will put upward pressure on interest rates. there are also mitigating factors such as appreciating currency, soft rates abroad, moderate inflation and a lower fiscal deficit. As a result, we do not expect yields to move up by more than 100 bps over the next year.
So, given the long tenure of home loans, future may declines may offset a near term increase. Risk averse borrowers maybe more comfortable paying extra for a fixed rate loan. Liquidity levels have been receding, inflationary pressures are creeping in, GDP growth is robust at 8% and credit growth is in excess of 30%. If a fresh loan is to be taken, it should be on a fixed rate basis.
Birla Home Finance Limited is a joint venture of KK Birla group
Company and BHW Holdings and AG of Germany. Here we present a discussion with Mr. S. Datta Gupta, MD of Birla Home Finance on the housing industry in urban India and the steps that the company is taking to improve its position.
How has housing finance industry evolved in the last few years and what is the demand & supply situation in this industry?
If you see it from historical perspective, when HDFC came up 20-25 years ago, there was virtually no competition. This was followed by insurance companies like GIC and LIC entering the business, and later on one or two small private players entered the business. This situation existed for long time, I think till 1999-2000, when large corporate started looking at the housing finance business as profitable business.
Two factors contributed to this in major way.
First, the Govt. was increasingly becoming aware of the necessity of promoting housing finance in India and that itself is resulted in a multiplier affect on the funds available for the industry.
Secondly, the market itself is so large that the entry of many more players is justified. In the meanwhile because of gradual increase of competition, interest rates started coming down and today industry virtually has rates at rock bottom. It can’t be better than this. Because if you see the traditional sources of funds like bank borrowing’s, banks generally lend at PLR plus rates and if you seen the interest rates in housing industry, they mostly PLR plus rates. this means that volume has become the name of the game, because margins have really become wafer thin. So. What transpires between 20 years ago and today is the entrance of new players, resulting in rate decrease and providing customers more options to choose from.
Do you think that the phenomenal growth rates run a chance of tapering off once the tax incentives are removed three years down the line?
The industry is growing at a compounded rate of around 30%. I think that Govt. has realized that, on its own and relying on the banking system alone, it can not under any circumstance, solve the ever increasing housing requirement of the country. therefore, the various incentives that it has thrown in through successive budgets and are improving upon them, in my opinion, will continue in foreseeable future. From individuals point of view, the tax incentives will only increase and do not decrease.
What is your outlook on interest rates? Do you foresee them coming down further or they will stabilize at currently prevailing levels?
My feeling is that in short term, they will stabilize, but for longer term, it is very hard to predict. If you ask me for a horizon of 3 years, I won’t be giving you any guess. It is hard to give assessment even though the basic fundamentals are very stable.
We have relatively controlled inflation at around 5%, the demand for funds is quite healthy and industrial activity is at good level. On the whole, I think we are looking at a stable interest rate regime, at least in the long term.
How do you manage your capital structure in a falling interest rates regime? You have to have an interest rate hedging mechanism.
We give two options. Either you play with term or you play with the EMI. You can decrease your EMI with decrease in interest rate or you can reduce the term. Both are acceptable to us. However, some asset liability management anyway remains
Whenever we borrow from banks, we borrow partly at fixed rate and partly at floating rate. And your treasury continuous monitors what portions of business we do at floating rates and what amount at fixed rate.
Any advice to applicants to go in for floating or fixed rates?
Well, it really depends upon how the applicant perceives his future. If applicant is so on a career growth path, than it makes sense to go in for variables rates where he can play with upturns of interest rates, But if the individual is a reasonable fellow, earning a stable salary, than he will go in for fixed rates because he will know that his commitment is over next, say 10 years.
The letter that a borrowed eagerly waits to fill up. Once the loan is issued by the way of sanction letter, the applicant communicates his willingness to accept the loan by way of an acceptance letter. He has to send this within a time frame of 1-3 months from the date of the sanction letter.
Number of equated installments in the form of post dated cheques, paid out in advance at the time of disbursement of loan.
Unavoidable pay out by which bank/HFC can make money of you. A one time fee; generally not refundable; payable before the loan is disbursed. Rates may vary from 1-2% of the loan amount.
Much like other commitments, which is one screws up one gets short end of the straw. It is an interest, which is charged if you do not draw the sanctioned loan amount within a period of 6-7 months. The interest rate is usually about 1-2%.
Document to ward of the nightmare property litigation. It records details of transfers of ownership of a property in succession right to the current owner. It shows the date, the names of the parties involving the amount of consideration, the extent and schedule of the property. This certificate can be obtained from the sub-registrars office for a payment of fee. This certificate is also useful in establishing the events as to how and when the present owner came into possession of the property.
Equated Monthly Installment (EMI)
Loan repayments are usually in Equal Monthly Installment over the tenure of the loan. Some banks also offer a variable installment scheme in the beginning of the loan period. This is beneficial for those individuals who are trying to maximize their tax breaks in the initial years and expect future tax breaks to fall.
Here the interest rate on the loan depending on the Prime Leading Rate (PLR) fixed by the reserve bank. This change can happen as frequently as one in sixth months. If the PLR falls, z you benefits and if it rises… however, in case of a fall your payments remain the same for every month. The finance company will refund some of your EMI cheque and effectively compensate you by reducing the tenure of the loan. The reverse happens if the PLR rises, much to your disadvantage.
Percentage representation of the amount of annual interest on the total loan amount.
Legal Scrutiny Report
The documents which are pertaining to your property needs to be scrutinized by the legal personal of the HFC to ensure that you are buying a property that is clear and marketable.
Most HFCs charge some fee for pre-payment of loan before the tenure is over. Your earning capacity normally increases with your age and a prepayment fee can be a big cost. The fee is normally in the range of 1-2% of the prepaid amount.
Home Housing Finance companies do not charge you for prepayments from your own savings. However, if you retire a loan using money borrowed from another Finance Company, you will have to pay a refinance charge of 1-2% of the loan outstanding.
A contradictory word here as it does nothing but increase your tension. Interest rates are quotes on a daily rest, monthly rest or annual rest basis. The annual rest quote implies that the company gives you the credit for the monthly principal repayments only at the end of each year. Such loans are therefore more expensive than a monthly/daily rest loan. The shorter the tenure of the loan, the greater the effective interest rate difference will be.