Thread by @sahil_vi

Let's understand what high NIMs mean for 🏦.

Short 🧵

https://twitter.com/kothariabhishek/status/1487491214903369728

Lenders work on the law of large numbers. The aim is not to make money on each & very loan. The aim is to model cohorts of lendees & charge each cohort based on 2 aspects :

1. The opex of the loan (some loans are inherently higher cost structure. Eg : business loans, gold loans. Compared to home loans which are lower opex.

Since, once you give a home loan the customer is tied up for 15-30 years & thus after front ending of the costs, the interest income is back ended.

2. The credit loss of the lendee cohort. Again, experience in lending enables lender to model each cohort for credit losses.

This modelling of opex costs & credit losses enables lenders to price loans appropriately. The question being asked has a Answer which is very simple :

1. Each lender has its inclusion & exclusion criterion. Each of them has its own catchment area. They decide to operate in certain sections and NOT operate in others.

This exclusion criteria creates opportunities for their peers. If i decide not to lend below the age of 25 then my competitor can make a buisness model operating in that niche.

Entire banking system is the organized part of credit system. They are not competing against themselves but rather against the unorganised lending. Informal lending. Sahukaar & loan sharks.

Ones giving 50% interest rate & 200% interest rate. So the 14% might seem like a lot, but no, it isn’t. In fact you have answered your question on your own. That high interest rate enables the bank to operate even with high credit costs.

THAT IS the business model. In a function economy, everyone needs credit. You need credit. Your driver & your house help also need credit of course the rate of interest is not the same for both of you.

While kotak bank might make money lending to you. There is still space left for others to lend to your driver & house help & make money as long as the credit risk is priced correctly.

I consider the duration of lending operations as an important competitive advantage in lending. For evaluating the bank, you need to read the capital first vp thread first since that is the management in control of the lending now.

You need to see their yields their credit costs, their cost to income ratios & ask yourself whether there is a business model there or not.

Looking at the average cost of funds is a misleading way to interpret & evaluate the bank. While the average is 6.8% what one needs to appreciate is 2 things:

This average contains the high cost of funds like 8-9% borrowings. These are what were used to fund the high yield higher risk lendee. But there is a business model here. This is what Bajaj finance & capital first have proven to us.

This average ALSO contains the casa funds which currently are costing the bank around 4.5% or lower (15% ca and 85% sa with sa rate of 5%). This 4.5% cost funds can be used to do prime home loan lending.

Even at 7% gross yield bank can still make tons of money because home loans are low opex low default product.

If one goes through the investor presentation one will see that the incremental risk taken by the bank has been going down over time.

If one goes through the the history of the bank specially the qip document, you’ll also see that the % of loan book which is focussed on mfi has been going down steadily.

Being replaced by safer lending areas like consumer finance (this is the main reason Bajaj finance has done well) & mortgages (home loans & loan against properties).

At end of the day, evaluating a lender canot be done by reading the numbers. We must evaluate the management & their conservatieness by evaluating their actions in times of stress. By evaluating how they treat NPA recognition.

By evaluating to what extent they are able to walk the talk. By all of those metrics, my invested & biased self finds this to be a conservative bank.Whether a bank is conservative or not does not depend on the gross yields. It depends on little actions in recognising stress early

In recognising pain instead of sweeping it under a carpet. Which bank was the 1st to call out Vodafone Idea as a stress ? Which bank was the 1st to provide provisions for vodafone even at the cost of totally demolishing their own P&L.

Do your own due diligence & make up your own mind. Conviction canot be borrowed. It must be earned individually by studying a good selection of banks deeply & making up your own mind.

🙏🙏🙏

I am invested & biased.

This is not a reco of any kind. I am not an investment advisor.