New Delhi [India], August 26 (ANI): Following the hawkish tone in the recent MPC minutes that raised the possibility of a 50-basis-point rate hike, non-banking financial companies (NBFCs) could face a 5-15 basis point increase in funding costs, potentially putting pressure on margins, said Kotak Institutional Equities, adding that asset quality will remain a crucial factor.

According to Kotak, NBFCs are expected to have a strong year despite the potential rise in funding costs. Growth is likely to be supported by healthy loan growth and asset quality in the first quarter, with most players expected to continue reporting strong growth in assets under management (AUM).

However, the brokerage said asset yields will remain a key factor for NBFC margins, as higher borrowing costs could be partly offset if lending rates remain stable or rise in select segments.

'Competitive intensity is elevated and could constrain yields, while remaining challenging to forecast,' Kotak noted.

The brokerage said NBFCs are expected to have a strong year, supported by good loan growth and healthy asset quality in the first quarter.

The recent MPC minutes indicate a hawkish stance, with concerns over inflation normalisation and real interest rates raising the possibility of a 50-basis-point rate hike from December 2027, the report said.

Meanwhile, government bond yields, which rose in March and April, have recently eased, while corporate bond yields have increased from May levels, widening credit spreads. Against this backdrop, most NBFCs have shifted their borrowings towards banks this year, although some have recently increased their reliance on the bond market.

Kotak said a possible rate hike could have a positive impact on the asset side, as the rate war may ease, with lending rates likely to remain stable or rise slightly in some segments. However, competition remains intense in the prime segment, led by aggressive public sector banks, while newer NBFCs continue to compete strongly in below-prime segments, particularly through DSA sourcing.

Kotak said the rise in NBFCs' cost of funds will mainly come from three areas -- the replacement of maturing non-convertible debentures (NCDs), a possible increase in repo rates and higher bank Marginal Cost of Funds-Based Lending Rate (MCLR) rates.

It said NCD repricing is unlikely to have a major impact on margins, while a 50-basis-point repo rate hike could raise funding costs by 5-15 basis points. Higher MCLR rates could also add to costs, although the impact may be delayed as most borrowings are linked to one-year MCLR rates with annual resets.

'...most NBFCs have 25-50% of their bank borrowings linked to repo. As such, this will have 5-15 bps drag on cost of funds...' it said, adding, 'banks have inched up MCLR rates; the pace of rate hike will determine the impact on companies.' (ANI)