Microfinance stocks

What is this big buzz around these MFI stocks?

Ujjivan Finance has been one of the classic outperformers post listing. A small microfinance company, Ujjivan, has given over 100% returns in the 3 months post listing. Ujjivan is just a microcosm of a larger story that is building up in Indian markets called micro-finance stocks. This includes stocks like Ujjivan, Equitas as well as Bharat Finance Inclusion (formerly SKS Micro), among others. What is the big story that is driving these MFI stocks?

High spreads, low default rates…

Currently microfinance companies find themselves in what is generally referred to as a dream combination. Most MFIs enjoy fairly high net interest spreads. MFIs are able to charge above market rates as their customers are largely unorganized, semi-urban and have little or limited access to traditional bank finance. Their above-average yields has enabled them to raise funds at competitive rates resulting in much better NIMs compared to traditional banks. MFIs also enjoy the benefit of low defaults on their loan books. Since the borrowers are more from small well-knit communities with limited bargaining power, there is a major stigma attached to defaults. This has enabled these MFIs to keep their NPAs at almost negligible levels. MFIs address the bottom of the pyramid and hence address a very huge and untapped market. As a result, there is limited scope for competition to beat down the spreads to lower levels.

Taking over from PSU banks…

The second reason why investors are finding MFIs attractive is that there is a huge space that has been vacated by the PSU banks. Traditionally, credit to rural and semi-urban areas was dominated by the vast PSU bank network. With gross NPAs at over 8.5%, these PSU banks have little leeway to expand their asset books. This has left a very large market in the semi-urban and rural areas almost underserviced. With private banks being focused largely in the tier-1 and tier-2 cities, they have little capability or incentive to focus on the smaller towns and markets. MFIs with their rural focus, accent on small customers and vast reach become the ideal candidates to fill the void left by the PSU banks. That could be a multi-billion dollar opportunity for MFIs.

Owning the network…

Banking is changing rapidly and is on the cusp of a major shift. The successful banks will be the ones that own networks, leverage technology and use the platform so created to offer multiple value propositions. PSU banks are not flexible enough and private banks are still focused on major cities. That virtually leaves a large playing ground for MFIs. They are best positioned to leverage technology and create a network ecosystem that can be monetized in a variety of ways. The MFI story may have just begun! ©

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