The Reserve Bank of India mandate to increase risk weights on bank loans given to higher-rated non-banking financial companies (NBFCs) is spurring funding diversification among the latter. Consequently, quarterly commercial paper (CP) issuances by NBFCs¹ hit a ~four-and-a-half-year high of ~Rs 1.2 lakh crore in January-March 2024, a level last seen in July-September 2019. However, this is still lower than the highs of ~Rs 3.1 lakh crore seen in July-September 2018 (see chart in annexure for details).

CP issuances are also supported by improved investor confidence because of healthy liquidity, stronger balance sheets and stable asset quality of NBFCs.

Says Malvika Bhotika, Director, CRISIL Ratings, “While banks will remain the dominant funding source (~43% share currently), NBFCs will look to diversify their resource profile given the increase in risk weights for bank funding. Consequently, the share of CPs is expected to rise over the medium term from the low of ~4% during fiscals 2020-2023. While the share rose ~200 basis points (bps) in fiscal 2024 to 6%, it will remain lower than the pre-pandemic high of ~11%”.

The increase in the CP share in the overall funding mix is not worrisome at this juncture due to three factors.

First, NBFCs backed by parent constitute almost 80% of the CP volume. Even for the other NBFCs, issuances are largely backed by shorter tenure assets such as loan against shares, gold loans and unsecured loans.

Second, NBFCs are issuing longer tenure CPs now as against the shorter tenures in the past. The proportion of CP issuances with maturities of up to 2 months was just ~10% during January-March 2024 compared with ~33% in July-September 2019. On the other hand, the share of issuances with maturity of 9-12 months increased to ~25% from ~8%.

Third, most NBFCs and housing finance companies (HFCs) are maintaining higher liquidity coverage ratio with the medians being ~155%² and ~140%³, respectively, as of December 2023.

Ergo, asset liability management shouldn’t see any challenges. This, along with stable asset quality and stronger balance sheets - with the sector’s gearing improving to ~4 times as of December 2023 from ~6 times as of March 2019 - will sustain investor interest in NBFC-issued CPs.

All said, NBFCs on their part, will need to continue prudent liquidity management with lower reliance on short-tenure CPs in their funding mix, as has been the case over the past few years.

Beside CPs, NBFCs may also look for other funding avenues including securitisation, which is also seeing traction, as reflected through its volume reconquering the peak of ~Rs 1.9 lakh crore in fiscal 2024.

¹NBFCs include HFCs, but exclude government-owned NBFCs
²The median is for NBFCs accounting for ~85% of the sector. As per regulatory requirements, NBFCs are required to maintain a minimum liquidity coverage ratio of 85% with effect from December 1, 2023.
³The median is for HFCs accounting for ~85% of the sector. As per regulatory requirements, all non-deposit taking HFCs with asset size of Rs 5,000 crore and above, but less than Rs 10,000 crore are required to maintain a minimum liquidity coverage ratio of 60% and HFCs with asset size of Rs 10,000 crore or above are required to maintain a minimum liquidity coverage ratio of 70% with effect from December 1, 2023.