Silver Point

Thomas J. Monaco

Independent Insight Provider

Silver Point is a boutique research firm that focuses on the broader financial services sector, with a particular focus on troubled institutions globally. 

Asia Ex Japan

Equity Bottom-Up

*RBI Fines Bajaj: The Reserve Bank of India (RBI) fined Bajaj Finance (BAF.IN) [Bajaj] INR 25 mn for failing to ensure that its debt recovery agents were following the appropriate guidelines; and*Credit Costs Pressured: While the Bajaj penalty is not material, the more intense level of regulatory scrutiny could negatively impact near-term retail loan collection efficiency and raise concerns over the cost of risk and the revival of loan growth. This recent action on recovery methods on top of already high bounce rates could potentially lead to a slowdown in the collection efficiencies and higher loss provisions.

*RBI Fines Bajaj: The Reserve Bank of India (RBI) fined Bajaj Finance (BAF.IN) [Bajaj] INR 25 mn for failing to ensure that its debt recovery agents were following the appropriate guidelines; and*Credit Costs Pressured: While the Bajaj penalty is not material, the more intense level of regulatory scrutiny could negatively impact near-term retail loan collection efficiency and raise concerns over the cost of risk and the revival of loan growth. This recent action on recovery methods on top of already high bounce rates could potentially lead to a slowdown in the collection efficiencies and higher loss provisions. 

Financials Credit Analyst

Hank Calenti, CFA

CreditContinuum

Credit

Democratic Party control of the Senate has clearly moved the goal posts for fixed income investors. The reflation trade is back. This requires repositioning by bank credit investors.The good news is that the rise in Treasuries is beneficial to bank securities over the short term, especially since it is occurring in tandem with continued bear steepening from the short end of the curve. Globally, higher net interest margins should follow from the steepening of the U.S. yield curve as excess reserves are allocated into US$ securities. However, the impact on India-headquartered banks may be less as we discuss within.There are two less positive impacts. First, if the rise in rates is a reflection that inflation is expected to return, then this is not duration friendly. In fact, long duration fixed income securities suffered over the last week. Theoretically, credit curves should flatten in response to the yield curve steepening. However, given the enormous level of monetary accommodation over the last nine months, the question then becomes, how much further can spreads tighten? Credit only has limited upside in the current reflation scenario. Second, higher rates will raise the real effective US$ exchange rate. All else equal, a higher real effective US$ exchange rate is dollar positive.  Asia and emerging market (EM) securities could suffer.Against this backdrop, higher risk Additional Tier 1 (AT1) bank bonds outperformed, principally driven by Thailand- and other higher risk China-centric securities on expectations of increased economic activity. Thai banks performed across the credit continuum in Senior Unsecured, Tier 2 and AT1 notes. This seems to be a case of cognitive dissonance which ignores vaccine distribution and time extension risks. The COVID-19 situation is deteriorating in Thailand and elsewhere. High financial market valuations seem inconsistent with economic activity. A pronounced degradation of asset prices could materialize. Our preference is to fade the Thai-bank rally.France’s central bank noted that systemic risk may rise over the coming months due to high corporate debt and the current round of Covid-19 lockdowns. The regulator stated that a significant rise in defaults could occur in a slow economic recovery. Please see <a href="https://www.smartkarma.com/insights/bnp-paribas-capital-forbearance-and-cds" target="_blank" data-smartkarma-citation="insights:46684" rel="noopener">BNP Paribas: Capital, Forbearance and CDS</a> for our assessment of this situation.In addition, we note that<a href="https://www.smartkarma.com/entities/commerzbank-ag" target="_blank" data-smartkarma-citation="entities:21596:1" rel="noopener">Commerzbank AG (CBK GR)</a> set a high bar for balance sheet clean-up by announcing a 50% increase in loan loss provisions for COVID-19. We would not be surprised to see additional healthy increases in loan loss provisioning. In fact, credit investors should be concerned if there are limited additional provisions taken. US banks kick-off the global bank earnings season on Friday.Market Outlook: Absent another behavioral lapse by the US President, ebullience over the prospects of additional stimulus spending should continue to positively impact the markets. Another lapse by the US President could see a temporary rise in demand for safe-haven assets. Eventually, the real issue of how much is too much stimulus as the vaccine is rolled-out will lead to concerns on how the Fed reacts. In this environment, artificially engineered credit costs may come back to hurt bank investors. Credit only has limited upside in the current reflation scenario and duration is not your friend at this point in the cycle.

Democratic Party control of the Senate has clearly moved the goal posts for fixed income investors. The reflation trade is back. This requires repositioning by bank credit investors.The good news is that the rise in Treasuries is beneficial to bank securities over the short term, especially since it is occurring in tandem with continued bear steepening from the short end of the curve. Globally, higher net interest margins should follow from the steepening of the U.S. yield curve as excess reserves are allocated into US$ securities. However, the impact on India-headquartered banks may be less as we discuss within.There are two less positive impacts. First, if the rise in rates is a reflection that inflation is expected to return, then this is not duration friendly. In fact, long duration fixed income securities suffered over the last week. Theoretically, credit curves should flatten in response to the yield curve steepening. However, given the enormous level of monetary accommodation over the last nine months, the question then becomes, how much further can spreads tighten? Credit only has limited upside in the current reflation scenario. Second, higher rates will raise the real effective US$ exchange rate. All else equal, a higher real effective US$ exchange rate is dollar positive.  Asia and emerging market (EM) securities could suffer.Against this backdrop, higher risk Additional Tier 1 (AT1) bank bonds outperformed, principally driven by Thailand- and other higher risk China-centric securities on expectations of increased economic activity. Thai banks performed across the credit continuum in Senior Unsecured, Tier 2 and AT1 notes. This seems to be a case of cognitive dissonance which ignores vaccine distribution and time extension risks. The COVID-19 situation is deteriorating in Thailand and elsewhere. High financial market valuations seem inconsistent with economic activity. A pronounced degradation of asset prices could materialize. Our preference is to fade the Thai-bank rally.France’s central bank noted that systemic risk may rise over the coming months due to high corporate debt and the current round of Covid-19 lockdowns. The regulator stated that a significant rise in defaults could occur in a slow economic recovery. Please see BNP Paribas: Capital, Forbearance and CDS for our assessment of this situation.In addition, we note thatCommerzbank AG (CBK GR) set a high bar for balance sheet clean-up by announcing a 50% increase in loan loss provisions for COVID-19. We would not be surprised to see additional healthy increases in loan loss provisioning. In fact, credit investors should be concerned if there are limited additional provisions taken. US banks kick-off the global bank earnings season on Friday.Market Outlook: Absent another behavioral lapse by the US President, ebullience over the prospects of additional stimulus spending should continue to positively impact the markets. Another lapse by the US President could see a temporary rise in demand for safe-haven assets. Eventually, the real issue of how much is too much stimulus as the vaccine is rolled-out will lead to concerns on how the Fed reacts. In this environment, artificially engineered credit costs may come back to hurt bank investors. Credit only has limited upside in the current reflation scenario and duration is not your friend at this point in the cycle.

Bank Credit Weekly: Moving the Goal Posts

Thematic (Sector/Industry)

*New Circular, New Loopholes: The Reserve Bank of India (RBI) has proposed capping non-bank financial company (NBFC) dividend payout ratios to a maximum of 50%. The methodology is predicated on the net NPL ratio and CAR. The new proposal is riddled with loopholes, as NBFCs can easily manipulate these ratios; and*Well-Placed NBFCs: Excluding LIC Housing Finance (LICHF.IN) and Shriram Transport (SHTF.IN), most large NBFCs are well placed to meet the proposed dividend cap if the guidelines are made applicable from the previous year.

*New Circular, New Loopholes: The Reserve Bank of India (RBI) has proposed capping non-bank financial company (NBFC) dividend payout ratios to a maximum of 50%. The methodology is predicated on the net NPL ratio and CAR. The new proposal is riddled with loopholes, as NBFCs can easily manipulate these ratios; and*Well-Placed NBFCs: Excluding LIC Housing Finance (LICHF.IN) and Shriram Transport (SHTF.IN), most large NBFCs are well placed to meet the proposed dividend cap if the guidelines are made applicable from the previous year.

Reserve Bank of India – Nothing Changes

*Management Call Doesn’t Allay Fears: FY 2Q21 results were significantly driven a loan loss provision decline of INR 18.1 bn (16.0%) despite much weaker credit metrics.  We find that reserves were light in the neighborbood of INR 1.1 tn  - nearly four years of pre-tax results or 61% of market-cap. The recent virtual call held by a competitor unfortunately did not allay our concern; and*Other Items Discussed: State Bank of India (SBIN.IN) [SBI] did reiterate its guidance for problem loan formation (slippages and restructuring) at 2.5% of loans outstanding in FY21. While SBI’s CET 1 ratio stood at 10.5% as of FY 2Q21,our calculated loss reserve shortfall would suggest that SBI has further wood to chop in this area.In addition, SBI is confident that it will be able to enhance its digital platform YONO into a more robust and scalable platform.

*Management Call Doesn’t Allay Fears: FY 2Q21 results were significantly driven a loan loss provision decline of INR 18.1 bn (16.0%) despite much weaker credit metrics.  We find that reserves were light in the neighborbood of INR 1.1 tn  - nearly four years of pre-tax results or 61% of market-cap. The recent virtual call held by a competitor unfortunately did not allay our concern; and*Other Items Discussed: State Bank of India (SBIN.IN) [SBI] did reiterate its guidance for problem loan formation (slippages and restructuring) at 2.5% of loans outstanding in FY21. While SBI’s CET 1 ratio stood at 10.5% as of FY 2Q21,our calculated loss reserve shortfall would suggest that SBI has further wood to chop in this area.In addition, SBI is confident that it will be able to enhance its digital platform YONO into a more robust and scalable platform.

State Bank of India – Reserve Shortfall Needs To Be Addressed

The worse the economic news, the greater the expectation of US federal stimulus, the more the market rallies. Investors may be surprised to find that recent federal stimulus discussions are more appearance than substance. The balance of the US Senate is at stake and this posturing plays right into that election.Despite the overall improved risk tone, emerging market capital inflows flattened to remain at their highest levels since mid-February. This is surprising as almost everyone expects a weakening dollar next year. This is not a good sign. So long as yields are rising due to economic growth expectations, all is good; however, if yields are rising due to increasing inflation expectations, then a market correction is inevitable as investors re-assess policymaker’s commitment. Much depends on what and how the Fed communicates. Signs of wavering from overshooting inflation targets could spark a mini-taper tantrum.While global risk sentiment strengthened, Asia’s high yield markets outperformed the US indexes. Asia’s outperformance was likely due to more encouraging news from the region in terms of November’s PMIs which went down well with increased US federal stimulus expectations. Nonetheless, Asia’s HY index still has considerable room to catch-up with the US index. This difference was at its widest level in over 10-years recently and had hit a low of 1.45pp three months ago. This volatility seems overdone. We believe this to be due to US market irrational exuberance although increased concerns on the health of China’s debt issuers also played a part. Rising expectations for the Fed to take bond-supportive policy steps and the potential for another round of fiscal stimulus also play in the market dynamics. However, the Fed may not move before knowing the outcome of the Senate elections and federal stimulus discussions may be a false dawn. As such, we continue to suggest positioning for spread compression between the US and Asia HY indexes via the US Caa-rated index level.Within this environment, Asia’s High Yield bank bonds continued to outperform, although almost all bank bond prices rose on increased risk sentiment. Asia’s lowest rated bank bonds led in terms of spread outperformance. However, a Fed-influenced cap on US longer-term rates may not be bank friendly. We caution bank investors that Fed programs are forever, so be careful what you wish for. Remember when Quantitative Easing ended?Market Outlook: The question now is whether the federal stimulus discussion is about economic or political reality. We hope that our US federal stimulus cynicism is proven incorrect. Assuming we are incorrect, tension between longer-term optimism from vaccine driven economies and the shorter-term reality of increasing Coronavirus lockdowns may then weigh on the market. The recent surge in bullish sentiment raises the question of whether it is sustainable or if a correction may be around the corner, possibly due to the lack of Fed action in its asset purchase program. We are now more deeply set-up for buy-the-rumor, sell-the-fact profit taking.

The worse the economic news, the greater the expectation of US federal stimulus, the more the market rallies. Investors may be surprised to find that recent federal stimulus discussions are more appearance than substance. The balance of the US Senate is at stake and this posturing plays right into that election.Despite the overall improved risk tone, emerging market capital inflows flattened to remain at their highest levels since mid-February. This is surprising as almost everyone expects a weakening dollar next year. This is not a good sign. So long as yields are rising due to economic growth expectations, all is good; however, if yields are rising due to increasing inflation expectations, then a market correction is inevitable as investors re-assess policymaker’s commitment. Much depends on what and how the Fed communicates. Signs of wavering from overshooting inflation targets could spark a mini-taper tantrum.While global risk sentiment strengthened, Asia’s high yield markets outperformed the US indexes. Asia’s outperformance was likely due to more encouraging news from the region in terms of November’s PMIs which went down well with increased US federal stimulus expectations. Nonetheless, Asia’s HY index still has considerable room to catch-up with the US index. This difference was at its widest level in over 10-years recently and had hit a low of 1.45pp three months ago. This volatility seems overdone. We believe this to be due to US market irrational exuberance although increased concerns on the health of China’s debt issuers also played a part. Rising expectations for the Fed to take bond-supportive policy steps and the potential for another round of fiscal stimulus also play in the market dynamics. However, the Fed may not move before knowing the outcome of the Senate elections and federal stimulus discussions may be a false dawn. As such, we continue to suggest positioning for spread compression between the US and Asia HY indexes via the US Caa-rated index level.Within this environment, Asia’s High Yield bank bonds continued to outperform, although almost all bank bond prices rose on increased risk sentiment. Asia’s lowest rated bank bonds led in terms of spread outperformance. However, a Fed-influenced cap on US longer-term rates may not be bank friendly. We caution bank investors that Fed programs are forever, so be careful what you wish for. Remember when Quantitative Easing ended?Market Outlook: The question now is whether the federal stimulus discussion is about economic or political reality. We hope that our US federal stimulus cynicism is proven incorrect. Assuming we are incorrect, tension between longer-term optimism from vaccine driven economies and the shorter-term reality of increasing Coronavirus lockdowns may then weigh on the market. The recent surge in bullish sentiment raises the question of whether it is sustainable or if a correction may be around the corner, possibly due to the lack of Fed action in its asset purchase program. We are now more deeply set-up for buy-the-rumor, sell-the-fact profit taking.

Bank Credit Weekly: New Equation Is Bad News = Buy

India

Muthoot Finance Ltd. is a gold financing company. The Company provides personal and business loans secured by gold jewellery, or Gold Loans primarily to individuals who possess gold jewelry but can't access formal credit lines.

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Muthoot Finance (MUTH IN)

Bajaj Finance – Smack

BAJAJ FINANCE: RBI fined Bajaj Finance INR 25 mn for failing to ensure that its debt recovery agents were following the appropriate guidelines....

Thomas J. Monaco

Bank Credit Weekly: Moving the Goal Posts

Fixed income goal posts were clearly moved by Democratic Party control of the Senate. Credit has limited upside in the current reflation scenario....

Hank Calenti, CFA

Reserve Bank of India – Nothing Changes

RESERVE BANK OF INDIA: New proposed dividend cap on Nonbank financials companies, while trying to rein-in systemic risk, is laden with loopholes.

Thomas J. Monaco

State Bank of India – Reserve Shortfall Needs To Be Addressed

STATE BANK OF INDIA: Recent Call Suggests No Real Progress On Significant Reserve Shortfall, And That Another Capital Raise Not Out Of Question

Thomas J. Monaco

Bank Credit Weekly: New Equation Is Bad News = Buy

The worse the economic news, the greater the expectation of US federal stimulus, the more the market rallies. We are now more set-up for buy-the...

Hank Calenti, CFA

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