An analysis of the spill over on promoter bank in case of adverse shocks to an HFC’s asset quality, and the consequent impact on the parent’s capital adequacy

Abstract

Real estate has been identified as one of three sensitive sectors by the RBI in view of the risks that emanate from fluctuations in prices. A highly cyclical sector, housing supply, unit launches, and absorption peaked in 2014. For the seven largest housing markets in India, supply of new units has been less than half of 2014 peak level every calendar year since 2016. Due to this cyclicality, under Basel and RBI norms, real estate loans have some of the highest risk weights. As a result, much of the RE financing comes from beyond the banks’ balance sheet. While construction finance comes from Non-Bank Financial Companies (NBFCs), Private Equity and Credit, individual housing loans are mainly supplied by banks and Housing Finance Companies (HFCs). HFCs are specialized institutions that primarily provide finance for housing. HDFC, India’s first HFC, was established in 1977, and it subsequently went onto establish India’s most valued bank. During this period, India’s largest banks and LIC, the public sector insurance behemoth, established their HFC arms. Today, banks and HFCs contribute the lion’s share of individual housing loans. Banks have enjoyed a higher share of housing loans except for a brief period in late 1990s-early 2000s when banks were saddled by large NPAs after the Narasimhan committee prescribed NPA norms for banks