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The RBI has not changed the repo rates, maintained at 6.25% but has cut SLR rate by 50 bps.  RBI has indicated that it wait for more clarity on data on inflation going forward before taking any decision on monetary policy action. However with inflation in terms of CPI continuing to remain low, any rate hike action which the markets were fearing over the last few weeks seems less likely. Thus a rate cut which seemed off the table till a few weeks ago continues to be an alternative going forward, depending on multiple data points. GST rollout so far has been assumed to not affect inflation meaningfully, though it will need to be watched carefully.

Investments:

Investors having investments in dynamic or duration funds can benefit from falling interest rates if inflation continues to be low. Investors having long term goal durations of 5 plus years for their fixed income portfolio can continue to invest in the duration and dynamic funds, along with tax free bonds. For investments with 3 to 5 year horizons investors can consider investing in a mix of short term and duration funds. Investor having an investment horizon of 1 to 3 years could invest into ultra-short term and short term funds to avoid volatility in interest rates.

Loans:

As there is SLR rate cut by 50bps banks will have more liquidity for lending and to pursue credit growth opportunities. The bank lending rate may go down due to excess liquidity in the banks and to increase consumption. People having loans can look for refinancing opportunities as rates could continue to remain low going forward.

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Whilst there was a consensus view of RBI cutting repo rates today, with only the extent of the rate cut being questioned (would it be 0.25% or 0.5%?), Urjit Patel or rather the monetary policy committee (MPC) sprung a surprise by keeping rates unchanged. Both equity and bond markets reacted negatively to this as they were pricing in at least a 0.25% cut.

RBI was probably concerned by multiple factors – volatility in global financial markets that could be caused by a Fed rate hike, issues in the Eurozone, oil price rises, and the potential stickiness of consumer inflation around non food components.

One needs to remember that inflation targeting continues to be the core role of the RBI moving forward, and any risks to inflation are likely to result in a more conservative approach, tilted towards managing inflation in the inflation growth trade off.  In addition, the focus towards management by data is a significant positive, as markets can sometimes allow emotions to override incoming data, that may be to the contrary.

MPC pic

Your investments

The demonetisation impact on the Indian economy continues to be rather speculative in our opinion, with a very wide range of possible outcomes,. and data around the same is likely to continue to throw up surprises. For example, we have seen over the last few weeks, the quantum of cash deposits that have come back to the banking system have been significantly larger than originally anticipated. In light of the need to take portfolio investment decisions basis data, it may be prudent to look for broader trends to capture through your investment strategy for example fixed income products continue to offer a real rate of return in the region of close to 2%, continuing to make fixed income investments an attractive option. With liquidity continuing to be significant, it would be prudent to look at locking into current interest rates, through a combination of accrual oriented short term and medium term funds, tax free bonds and to also cover reinvestment risk. A portion of the fixed income allocations can continue to be allocated to taking the benefits of falling interest rates, by investing into dynamic bond funds where the fund manager has the flexibility to move portfolio durations driven by incoming data. Equity investors may need to enhance exposures gradually through a combination of rupee averaging and value averaging strategies, as the potential slowdown on the back of a US rate hike and a consumption slowdown driven by demonetisation, is balanced by possible liquidity flows from Japan and the EU, as well as equity prices, especially of large cap indices, now at levels much closer to fair value after the recent correction.

Your loans

With the expectation of cost of funds for banks coming down post demonetisation, banks’ lending rates are likely to continue to slide further down. Since April 1, 2016, when the MCLR was introduced, most banks have been reducing it gradually as their cost of funds came down. The huge inflow of funds post demonetisation could make them cut MCLR  further. Thus one can expect loan rates to continue to head downwards, creating some additional consumption or investing surpluses for families with loans.

Way Ahead

The RBI is clearly aware of the danger to the GDP growth rate and possible liquidity outflows, driven by the twin impact of demonetization and higher interest rates in the US. Thus a wait and watch policy may actually be a great idea. Whilst everyone will await the next policy on Feb 8th, one needs to remember that action by the RBI can also be done prior to that if necessary, and therefore should not be ruled out. After all, surprises and the independent nature of the RBI are back in fashion.

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PNB  Housing Finance is the 5th largest Housing Finance Company by loan portfolio as of 30 Sep 2016. They offer loans for purchase, construction, extension or improvement of residential properties or plots, Non housing loans in the form of Loan Against Property (LAP), loan for construction of Non Residential premises and general purpose loans to developers for on-going projects.

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Data Source: JM Financial

Post issue the share of PNB will reduce to 39% from 51% at present. In case of Destimoney, which took 49% stake in 2009, the stake will reduce to 38%.

Strengths

  1. Strong distribution network:

Their business is spread across Southern, Western and Northern regions of India. As on31 st March, 2016, 40% of their loan portfolio originated from the Northern region and ~30% each from western and Southern regions.

  1. Stable operating model and centralised operational structure:

Their processing hub is designed to support additional branches which will enable them to deepen penetration. Their branches, processing hubs provide centralised and standardised back end and administrative activities, payments and processing of their business. This enables timely collection of funds, better fund management and proactive alerts to their collection department in the event of an overdue.

  1. Diversified and cost effective funding source:

As on 31 Mar, 2016 their lenders include 22 public and private sector banks, 17 mutual funds, 16 insurance companies, 553 Provident funds and 122 pension funds. This has resulted in an overall low cost of borrowing and allowed them to maintain sufficient interest margins.

  1. Prudent credit underwriting, monitoring and collection process

This has helped them maintain growth in the loan portfolio without compromising on credit quality. They have a credit appraisal team of experienced professionals who perform credit checks to minimise losses. They also have subject matter experts in several areas of underwriting, legal, technical valuation and collections.

Risk factors

  1. If they are unable to manage the growth of their loan portfolio effectively it will impact their business
  2. Interest rate volatility may impact their business performance
  3. They face risk of default and non-payment by customers, in particular self-employed customers, who constitute 23.76% of their total loan portfolio as on 31 Mar 2016 due to factors like change in interest rates, regulations or other factors impacting macroeconomic or global environment.
  4. Due to increased competition and deregulation of interest rates, housing loans are becoming standardised and lower processing fees and monthly reset options are becoming increasingly popular decreasing spreads.

Valuation

Peer Comparison

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The Price to Book ratios look reasonable compared to peers.

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Data Source: DRHP

There have been stable Net Interest Margins, reducing cost to income ratios and decreasing gross NPAs to total loan portfolio which is positive.

Our opinion: Subscribe for the long term

Its reasonable valuations, strong loan growth and strong distribution network are key factors. However, already existing competition could be a challenge. Investors with long investment horizon can subscribe to this issue as projects like ‘smart cities’ and ‘Housing for all by 2020’ may positively contribute to growth of PNB hosing Finance.

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In its first Policy the Monetary Policy Committee (MPC) headed by newly appointed RBI Governor Urjit Patel cut policy rates by 0.25% taking repo rates down to 6.25%. The way rates are decided is different from what it was before. It is now a 6 member committee which decides rates instead of the Governor alone. The MPC was unanimous in their decision to reduce interest rates by 0.25% today.

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Focus on the real rate of return

With interest rates falling, there is a tendency to want to take more risk on the portfolio to achieve a higher absolute rate of return. We think that it is critical that investors focus on real rates of return ie the return after inflation on their portfolios. RBI continues to want to keep real rates of return between 1.25% and 1.5%, which makes fixed income attractive, even if you generate a lower return that what you generated a few years ago. Avoid higher risk strategies in chasing a higher rate of return in the current environment.

Your Investments

The rate cut came largely on the back of improved inflation numbers close to 5% in August compared to close to 6% in the month of July. Whilst food inflation, which was a big driver of inflationary pressures, seems to have come off very sharply, there continue to be risks of higher inflation due to the impact of the Goods and Services Tax (GST) post the announcement of the GST rates by the GST Council, the Seventh pay commission and the merger of the railway budget and the Union Budget which could impact the fiscal deficit by 0.15 to 0.25%. With an inflation target of of 4% +/-2%, the inflation numbers seem to be well under control at this point. The bond and equity markets had already priced in this 0.25% rate cut and thus they did not react aggressively to this announcement. Thus, whilst there continues to be a 0.25% rate cut possibility from here onwards, the timing of the same will be driven by other data, including what happens globally with interest rates. With growth rates continuing to become healthier in India, equity markets may continue to hold up in spite of their premium valuations at this point, as earnings could continue to be supported by lower interest costs. Therefore, the strategy would be to use a combination of domestic and US equity along with bond funds, with the bond fund exposure being weighted more towards accrual and short term strategies, and less towards duration and dynamic strategies. On the liquidity front RBI policy remains accommodative and nothing has changed on that front.

Your Loans

The loan rates get decided by Marginal Cost of funds based Lending Rate (MCLR). The transmission that has happened is lower than what everyone had expected. Therefore on the loan side you could continue to expect some relief, though it may be lower than what is expected.

Way Forward

The December policy will, to some extent, depend on the data flow and market expectations of the US Federal Reserve decision on hiking interest rates or not. Let us watch for the next RBI policy on 6 December 2016.

Image Credits: www.canstockphoto.com

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It is important to keep track of your assets and investments and how they are performing and how far they are helping you in achieving your goals but it’s equally important to keep a check of your liabilities. Your cash flows at any point in time will be greatly impacted by the way you manage your liabilities.

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Image Source: www.paisabazaar.com

Let’s broadly classify liabilities into two parts to make it easy for us to understand.  Your ongoing home loan, car loan, education loan or your personal loan could be one type of liability. Your pending credit card bills or any other kind of unpaid bills could be the second type of liability.

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Image Source: www.freepik.com

Let’s talk about the second type of liability first. There is a very high interest rate that they charge on the unpaid credit card bills. It is important to get rid of these as fast as possible. The amount will multiply much faster than you realize and you will get into the loop where you will pay of a part of it and by the time you decide to pay the rest of it already a huge interest might just get added to it. In short it leads to drain of wealth of an amount much higher than your original liability. Another important implication of this is on your credit scores. Every individual who has ever taken a loan has a credit score. This depends on your financial behavior and the way you service your existing debt. Going forward the debt score will determine your loan taking ability and the rate you will be charged for the same.

The other type is your home, personal, car, education loan, etc. Most commonly people have either a home loan or a car loan. The way you can manage them will depend upon the rate of interest that you have been paying on your existing loan and what are the current loan rates in the market. If there is a scenario similar to the current one where there is an expectation of further rate fall then you should take a new loan at a lower rate to repay your existing loan where you may be paying a higher rate.

If you have some goals, so you can choose to pay either higher EMIs or lower EMIs depending on the need for cash flows at a particular point in time. In any loan the EMI that you pay services your interest portion in the beginning and then slowly it starts servicing your principal component. Therefore you might notice after few years of regular EMI payment your principal may have reduced by a very small amount.  If you have a surplus cash inflow at any point in time then you might want to prepay some part of your loan. Its appraisal time now in some of the organizations. If you receive a salary raise then you might choose to pay a higher EMI to speed up your loan repayment.

If the rate of return on the investment is higher than the rate of your loan then you should consider investing instead of prepaying. But if it is the other way round then you should consider prepayment.

Also recently Marginal cost based lending rate (MCLR) has been introduced and is applicable from 1 April 2016. The MCLR linked loans are at least 0.10% cheaper than base rate linked lending rates. Only floating rate loans can get linked to MCLR. It has a reset clause which means your rate will get reset on every reset date. Reseat date depend from bank to bank. MCLR rate is calculated based on deposit rate of the respective bank plus a spread instead of base rate as it was done earlier. At every reset date when your rate changes it will alter your loan tenure and not your EMI. But if you want a change in EMI you can inform the bank. The new loan applicants will get loans linked to MCLR Rate. The existing investors can also shift to this rate by paying a fee. Most banks are charging close to 0.5% fee. So if there is a difference of at least 0.25% in the rate that you are paying currently and the new MCLR rate then only you should consider switching.

Last but not the least,

Don’t just keep paying EMIs. Take a look at available cash flows, need for cash flows and your goals and then decide how you want to manage your liabilities.

 

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Given the high and constantly escalating cost of higher education, especially for students going abroad, most parents find it difficult to fund their child’s education out of their own funds. Education loans have emerged as a highly beneficial instrument for funding this need gap.

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Image source: thehungryfish.com

 Whom should you turn to?   

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Imagesource: careerindia.com

Public sector banks remain the most popular source of education loans. With the RBI classifying education loans as priority-sector lending, PSU banks are more willing to lend. Private sector banks are not too enthusiastic about this loan. Non-banking financial companies—players like Credila Financial services (promoted by HDFC) and Avanse Financial Services (promoted by Dewan Housing) have also jumped into the fray. They try to compete by lending a higher amount, processing the loan faster, and by waiving the margin amount. However, their rates may be on the higher side than that of PSU banks.

What are the costs associated with the loan?  

Interest rates on education loans are usually 1.5-3 percentage points above the bank’s base rate. For example PNB (9.60-12.60%) offers one of the cheapest education loans. For SBI, the biggest lender in this domain, the rate is 11-11.30%, depending on the loan amount.

The processing fee could be 1-1.5% of the loan amount. Lenders may or may not have a prepayment charge on this loan.

According to the model education loan scheme formulated by the Indian Banks’ Association (IBA), loans up to Rs. 4.5 lakh are extended without any collateral, with just a co-borrower (usually the parent) required. For loans above Rs. 4.5 lakh and up to Rs 7.5 lakh, banks seek third-party guarantee. For loans above Rs 7.5 lakh, students and parents need to show collateral. Life insurance policies, shares, mutual funds, bank deposits, post office savings products and property papers can serve as collateral. The value of the collateral must equal the value of the loan.

According to the model education loan scheme formulated by the Indian Banks’ Association (IBA), loans up to Rs. 4.5 lakh are extended without any collateral, with just a co-borrower (usually the parent) required. For loans above Rs. 4.5 lakh and up to Rs 7.5 lakh, banks seek third-party guarantee. For loans above Rs 7.5 lakh, students and parents need to show collateral. Life insurance policies, shares, mutual funds, bank deposits, post office savings products and property papers can serve as collateral. The value of the collateral must equal the value of the loan.

All loans of above Rs. 4 lakh carry a margin money requirement: 5% on loans for studying in India and 15% on loans for foreign courses.

Women students and those admitted to a premier institute can get a discount on interest rate of around 50 basis points.

 What can you use these loans for?

The money obtained from an education loan can be used to pay for tuition fee, examination fee, library fee, hostel fees; travel expenses for going abroad; purchase of books and equipment, including a computer; and to pay the expenses for project work and study tours.  Try to take all costs into account when quoting a loan amount to the lender.

What are the eligibility criteria?

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 Image source: timesofindia.indiatimes.com

 The borrower must be an Indian national and should have secured admission in an approved professional or technical course through an entrance test or selection process. Some banks have an age criterion (16-35 years) while others require certain minimum marks in the last qualifying exam. If you are applying to an Indian institution, it must be on the Indian Banks’ Association pre-approved list of 1,100 institutes.

Before approaching a bank or NBFC, compare their interest rates and processing fee. If you have got admission to a good institute, check if any bank has a tie-up with that institute. See if you can get preferential treatment from that bank, say, on interest rate, loan amount or collateral.

Before approaching a bank or NBFC, compare their interest rates and processing fee. If you have got admission to a good institute, check if any bank has a tie-up with that institute.

The high default rate of around 8% of the total education loan portfolio is nowadays making banks wary of giving out this loan freely and there is talk of the eligibility criteria being made stricter.

How is the loan repaid?

The bank grants a moratorium period of one year to the student after he has completed the course or six months after he has got a job, whichever is earlier. Then the loan has to be repaid within a specified tenure, which could range from 5-15 years.

The bank grants a moratorium period of one year to the student after he has completed the course or six months after he has got a job, whichever is earlier.

Banks grant an extension of up to two years if the student is unable to complete the course on time owing to factors beyond his control.

Pay the simple interest that is charged on the loan while your ward is studying. If you fail to do so, you may not get the 1 percentage point concession on the rate of interest that regular borrowers are entitled to. Doing so will also help lower your EMI.

What are the tax benefits?

The entire interest paid on an education loan (with no ceiling) is eligible for tax deduction under Section 80E of the Income Tax Act. This tax benefit is, however, available only for eight years and not more, even if the tenure is longer. No tax benefit is available on principal repayment.  To avail of the benefit of Section 80E, the loan has to be from an approved entity.

The entire interest paid on an education loan (with no ceiling) is eligible for tax deduction under Section 80E of the Income Tax Act.

What happens if you default?

Before taking an education loan, students and their parents should evaluate the job prospects and likely salary package after the completion of the course. If there is a default on an education loan, the credit score of both the student and the parents gets affected. This means that in future you will have difficulty in getting any loans and credit cards.

Before taking an education loan, students and their parents should evaluate the job prospects and likely salary package after the completion of the course. If there is a default on an education loan, the credit score of both the student and the parents gets affected.

If EMIs become due for 90 days, the loan gets classified as a non-performing asset (NPA) by the bank. Most banks wait for a month or two after the EMIs stop. If non-payment continues, they first issue a notice. Then they try to contact the loan guarantor. Only as a last step and after due notice do banks move to take possession of the collateral.

If the borrower agrees to start repayment once again, a penal interest rate of 2 percentage points over the regular interest rate is charged for the period of non-payment.

If you have difficulties in repayment, don’t try to avoid your lender. Inform him about your difficulties and try to get the loan restructured. Sometimes, banks do agree to lower the EMI and increase the tenure of the loan.

 If you have difficulties in repayment, don’t try to avoid your lender. Inform him about your difficulties and try to get the loan restructured. Sometimes, banks do agree to lower the EMI and increase the tenure of the loan.

Finally, the co-borrower (parent) should get an insurance cover equal to the loan amount, preferably a pure term insurance plan, to cover this liability.

The co-borrower (parent) should get an insurance cover equal to the loan amount, preferably a pure term insurance plan, to cover this liability.

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