With the Finance Minister’s 5th economic package announcement being released even as we write this, the break-up for the Rs 20.97 lakh crore covid package is out. There can be many chapters to write about each of these packages and what they seek to achieve.
We would like to make it clear that some of these structural reforms, whether labour-related or IBC or opening of some public-sector dominated sectors can have far reaching implications if implemented well. But all of these are well into the future, with limited details available at this point. Besides, we may not even be qualified to comment on some of them 😊
Instead, let me try taking some key highlights of the announcements, and explain what this could mean for your equity and debt investments.
For this, I’m narrowing the scope of discussion to Tranche 1, Tranche 4, and parts of Tranche 5 of the stimulus packages. Tranche 2&3 largely dealt with migrant workers, vendors, agriculture and animal husbandry. We’ll leave those out of this discussion.
Measures to reduce risk aversion
Broadly, the package in tranche 1 seeks to provide liquidity to cash-starved or distressed segments of the economy – MSMEs (micro, small and medium enterprises), NBFCs, power and real estate segments. The highlights from an equity and debt market perspective would be the following:
|Important highlights in Tranche 1||What’s in it for equity & debt market|
|Rs 3 lakh crore collateral-free automatic loans (of up to 4-year tenor) for small businesses including MSMEs – from banks & NBFCs – fully guaranteed by govt.||A survival tool kit for MSMEs. Banks & NBFCs to be used as a channel for this credit line. To this extent, some loan book to be built without fear of defaults. More on this below.|
|Fully guaranteed special liquidity scheme up to Rs 30,000 crore to invest in investment grade debt papers of NBFCs, HFCs and MFIs.||Some relief for stocks and debt papers of NBFCs and HFCs facing a confidence crisis in the equity and debt market. More on this below.|
|Partial credit guarantee scheme of Rs. 45,000 crore for NBFCs with AA-rated paper and below (including unrated), with first 20% of loss to be borne by Govt. To include primary issuance of Bonds/ CPs of such companies.||While the RBI’s earlier scheme did not provide much relief to NBFCs, this can help provide some liquidity from banks.|
Beneficiaries of MSME lending
Credit to MSMEs (more companies eligible now with changed definition of MSMEs) flow primarily through banks and NBFCs. According to CIBIL data, banks & NBFCs together had Rs 17.75 lakh crore of credit exposure to the MSME space as of January 2020 out of a total of Rs 64.45 lakh crore of on-balance sheet commercial lending in India. Of this, the market share of public sector banks, private banks and NBFCs (not considering other lending segments) stood as follows:
What is the above data on MSME exposure and market share telling us?
- Rs 3 lakh crore of guaranteed loan is a large sum in the context of a total exposure of Rs 17.75 lakh crore. This is guaranteed loan book business for banks and NBFCs.
- This is business which will not go into NPA.
Who will benefit the most: Public sector banks have large market share in the MSME space, but the same does not account for a large proportion of their overall loan book. The scenario is different for NBFCs, though. According to data from a Credit Suisse report, SMEs account for 10-30% of loans across banks & NBFC books. As of Dec-19, their share stood as follows:
In other words, segments of NBFCs and small finance banks that focus on MSME financing can get a dual advantage: one of getting liquidity easily to lend to this segment. Two, being rid of NPAs on this chunk of loans for 4 years.
Why is this chunk of stimulus more important now for NBFCs than for banks? Simply because NBFCs are staring more at a possible asset-liability mismatch. A good chunk of NBFC funding comes from the capital market, where there is no question of moratorium. On the other hand, the loans they have lent are currently under moratorium. Any kind of liquidity to NBFCs will help tide over any legacy and moratorium-driven balance sheet mismatch issues.
Bottomline for your investments: Only select NBFCs (apart from select public sector banks and private banks) will likely benefit from this. That means this is not a stimulus that calls for re-rating of the entire sector. Hence, as an equity investor, it becomes important for you to approach each business separately, apart from the credibility of the group. For those who benefit, the cost of borrowing too can come down, what with ready funding by banks & mutual fund institutions to such NBFCs.
Some debt market relief
The second measure of Rs 30,000 crore of liquidity for investment grade papers of NBFCs/HFCs cannot per se be called high liquidity injection for a sector that has Rs 27 lakh crore of loans lent. However, this measure can benefit debt papers of NBFCs and HFCs which are not top-rated in credit, although investment grade.
This may also bring back some liquidity in the debt market, thus helping mutual funds even offload some of their not so high rated debt papers in the debt market and move to better quality credit. As for large NBFCs that are probably facing more of a confidence crisis than a liquidity crisis now, this measure could help further bring down their yields.
Bottomline for your investments: We think quality debt papers would be the segment that you will likely gain from – in terms of easing yields and capital appreciation – whether through your bond or debt fund holdings. For the other papers you might hold, either directly or through debt funds, it might at best be an offloading opportunity.
The third measure of partial credit guarantee may help segments of NBFCS that are in deep liquidity crisis. While this provides for govt. guarantee only for the first 20% of the losses, it may help the lower rung of micro finance institutions and NBFCs in their survival. This is not a segment that your debt funds will be exposed to, much barring credit risk funds.
There are also other measures such as liquidity infusion by PFC and REC into power distribution companies, which could again provide some rally both in bonds of power generation and state distribution companies.
Overall, the takeaways for you on the three key measures would be:
- Pockets of NBFCs and select public sector banks benefit from guaranteed loan book to MSME. This may call for some rating upgrade in select stocks. Your stock picking has to be done with care, knowing the business focus of any finance company that you pick.
- Debt market will see some relief but does not in any way see default risk going away. None of the measures reduce the risk of default arising from bad assets of NBFCs as well as cyclical/commodity-related companies’ bonds. To this extent, credit risk is a strict no in your portfolio.
Long term sector impact and structural reforms
Tranches 4 and 5 saw the finance minster doling out many sector-specific reforms – ranging from liberalization of sorts in the coal mining and mineral mining space, privatization in the space sector, to infrastructure addition through new airports and more opportunities for local players for defense-related orders. All of these totaled to Rs 48,100 crore.
This puts a whole lot of sectors from mining & minerals, to infrastructure to capital goods to even healthcare into potentially benefitting from the spends/reforms. However, none of these are near to medium term in nature. And remember, may of these will need loans – for which banks need to be willing.
Tranche 5 has also come up with a very major decision of no new insolvency proceedings up to 1 year, and this can have both positive repercussions as well as negative (to the borrower). The details of this decision is awaited. Other reforms such as decriminalization of violation and procedural defaults under Companies Act and ease of doing business are all moves in the right direction, with or without Covid situation.
To sum up:
- Tranche 1 has some implications for you
- Tranches 2 & 3 are need of the hour measures
- Tranches 4 and 5 are more structural in nature
Covid package: What is the message for you?
Much of what the package has doled out seems to be for survival. For revival – the measures are not the kind that can re-start India Inc in a jiffy. So that leaves once again staring at companies and their fundamentals.
But how? When there is going to be little earnings on the table, price-to-earnings as a valuation metric may be deceptive. That may leave you with price to book value – a multiple that is seldom used in the Indian market. We just took stock of India’s price to book value in relation to other emerging nations from MSCI and here it is:
India is trading lower than its historical average at around 2.9 times but is not particularly cheap compared with peers.
Now, if you wonder why the market has remained flat post the announcement of three out of the five measures and why the 10-year G-sec has hardly budged, it leaves us with the answer that the direction is still unclear.
What though appears to be gathering momentum as a view is that at a time when earnings and balance sheets are under threat, there is a high probability of market once again paying a premium for quality. Will that once again make for a narrow market movement? We’ll keep track and let you know whether that calls for any changes in your MF portfolio. Besides, we will have our stocks to recommend by then 😊
For now, you may have to simply take note of a poignant message that a fund manager had on his twitter handle: “You’re on your own. And you know what you know. And you are the one who’ll decide where to go” – Dr Seuss.