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Repo linking: Floating-rate home loans may pinch customers as banks look to protect margins

Shritama Bose
Bankers caution that when interest rates rise, the risk on a long-term asset like a housing loan, could quickly go up

Homebuyers may end up repaying the entire interest component on their loans in the first year if they opt for a floating rate. This is because banks are building in enough of a cushion for themselves once they offer borrowers a floating rate of interest - pegged to an external benchmark like the repo.

"If you opt for a floating rate, you will have to pay out the interest in the first year. Only the principal will be broken into EMIs over the next 19 years," a senior banker from a state-owned lender told FE.

Unwilling to give up their margins, banks are toying with the idea of also offering fixed-rate home loans and floating-rate bulk deposits of over Rs 2 crore typically from corporates.

Bankers caution that when interest rates rise, the risk on a long-term asset like a housing loan, could quickly go up. "So, I will offer both options - a fixed-rate home loan and a floating-rate one. The same practice could be followed for term loans to micro and small enterprises," a private sector banker said.

Ashutosh Khajuria, ED and CFO, Federal Bank, said right now, everyone was looking at the product with tinted glasses since the repo rate could fall further. "Nobody is looking at a scenario when rates could be hiked," Khajuria said.

Last week, the Reserve Bank of India (RBI) issued a fiat to banks to price retail and SME loans over an external benchmark. Bankers are understood to have asked the central banks repeatedly for a framework to offer floating rates on bulk deposits.

While they have tried to introduce floating-rate retail deposits, these have failed to take off as a large number of depositors are senior citizens looking for a guaranteed income.

In a recent note, CLSA observed that a 5-basis point (bps) impact on net interest margins (NIMs) could impact banks' FY20 pre-tax profit by 4%, with the impact being even higher for public-sector banks (PSBs). The RBI diktat will apply almost exclusively to home loans and education loans in the retail segment and loans to micro and small enterprises. Vehicle loans, personal loans and credit card outstandings are typically priced at fixed rates.

For corporate loans, the existing marginal cost of funds-based lending rate (MCLR) mechanism may continue to be relevant.

Nonetheless, both loans and deposits are set to be aligned more closely to the market, with customers having a more diverse set of products to choose from. As Khajuria says, "Instead of having kaali dal with chawal, you will now have some tarkaari also."