A Financial Industry Analysis

A Industry Analysis

Industry Analysis

INDIAN FINANCIAL SERVICE INDUSTRY 

Introduction

India has a diversified financial sector undergoing rapid expansion, both in terms of strong growth of existing financial services firms and new entities entering the market. The sector comprises commercial banks, insurance companies, non-banking financial companies, co-operatives, pension funds, mutual funds and other smaller financial entities. The banking regulator has allowed new entities such as payment banks to be created recently, thereby adding to the type of entities operating in the sector. However, financial sector in India is predominantly a banking sector with commercial banks accounting for more than 64% of the total assets held by the financial system. The Government of India has introduced several reforms to liberalise, regulate and enhance this industry. The Government and Reserve Bank of India (RBI) have taken various measures to facilitate easy access to finance for Micro, Small and Medium Enterprises (MSMEs). These measures include launching Credit Guarantee Fund Scheme for MSMEs, issuing guideline to banks regarding collateral requirements and setting up a Micro Units Development and Refinance Agency (MUDRA). With a combined push by Government and private sector, India is undoubtedly one of the world's most vibrant capital markets. 

Market Size

As of July 2022, AUM managed by the mutual fund industry stood at ₹ 37.75 trillion (US$ 474.87 billion), and the total number of accounts stood at 135.6 million. Inflow in India's mutual fund schemes via systematic investment plan (SIP) stood at ₹ 48,565 crore (US$ 6.10 billion). Equity mutual funds registered a net inflow of ₹ 22.16 trillion (US$ 294.15 billion) by end of December 2021.

Another crucial component of India‘s financial industry is the insurance industry. The insurance industry has been expanding at a fast pace. The total first-year premium of life insurance companies reached US$ 40.1 billion in FY22. In FY23 (until May 2022) non-life insurance sector premiums reached at ₹ 36,680.69 crore (US$ 4.68 billion).

Furthermore, India‘s leading bourse, Bombay Stock Exchange (BSE), will set up a joint venture with Ebix Inc to build a robust insurance distribution network in the country through a new distribution exchange platform. In FY22, US$ 14.55 billion was raised across 127 initial public offerings (IPOs). The number of companies listed on the NSE increased from 135 in 1995 to 2,012 by FY22. The Indian equity market is expanding in terms of listed companies and market capitalization, widening the playing field for brokerage firms. Sophisticated products segment is growing rapidly, reflected in the steep rise in growth of derivatives trading. In FY22, the number of listed companies on the NSE and BSE were 2,012 and 4,807, respectively. Total wealth held by individuals in unlisted equities is projected to grow at a CAGR of 19.54% to reach ₹ 17.64 lakh crore (US$ 273.69 billion) by FY22.

India has scored a perfect 10 in protecting shareholders' rights on the back of reforms implemented by Securities and Exchange Board of India (SEBI) in the World Bank's Ease of Doing Business 2020 report. According to Goldman Sachs, investors have been pouring money into India‘s stock market, which is likely to reach >US$ 5 trillion, surpassing the UK, and become the fifth-largest stock market worldwide by 2024. 

NON BANKING FINANCIAL CORPORATIONS 

The banking and non-banking financial company (NBFC) sector in India has witnessed significant market-driven and regulatory events in the last decade. Cumulatively, these have had a profound impact on the industry. Some of the noteworthy developments include the issuance of new bank licences for universal banks, introduction of a new category of banks (small finance banks and payments banks); insolvency processes and the resolution of a few large nonperforming assets (NPA) situations; and consolidation of public sector banks (PSBs), etc. Before the onset of the COVID-19 pandemic, the sector was dealing with the contagion effects associated with the collapse of a few NBFCs and co-operative banks. However, innovation and the continuous adoption of technology did not falter within the sector even through these tough times. The evolution of the core banking system has transformed the banking sector‘s propositions, with anywhere banking and internet banking reducing the customers‘ need for visiting the branch. Digital payments not only helped in business-to-business (B2B) transactions but also pushed the adoption of e-commerce. 

Three potential high-impact changes that could impact the banking and NBFC industry have been highlighted here

Power of digital and analytics 

The pandemic has motivated the industry to reconsider its operation model and client acquisition strategy. Digitisation and automation have taken centre stage. With an increased focus on the Micro, Small and Medium Enterprises (MSME) and retail segments, banks are discovering novel ways of delivering financial services products to their end customers. Newer digital lending products introduced by fintech players have been willingly embraced by customers, thereby creating disruption, especially around client acquisition and retail lending products. A seamless customer journey has emerged as the ultimate aspiration and, therefore, guiding principle for the industry. Introduction of digital lending products largely entails self-service applications supported by back-end processing of applications on riskrating processes. Additionally, tools that aid risk-based pricing and lending decisions are expected to be the next growth enablers for banks. Banks have realised the importance of data and are investing in technology infrastructure to leverage both structured and unstructured data and transform this into analytics and subsequently, actionable insights. Cloud technology and the use of artificial intelligence and machine learning tools to perform forward-looking analytics should help in effective client acquisition, better credit decisions, improved efficiency and optimised costs. 

Transformation of public sector banks 

The growth of PSBs has been majorly stunted by their high level of NPAs. The market capitalisation of all 12 PSBs is less than that of one of the leading private sector banks. The government expects the top six PSBs to realign their business and operating models and be self-reliant when it comes to their capital requirements for growth. Furthermore, the government‘s decision to privatise and divest PSBs would also contribute to building scale and efficiency in this segment. Select PSBs have already commenced on their transformative journey by adopting digital lending products, creating alliances and partnerships with fintech players and investing in technology for data analytics.

Governance of NBFCs and conversion into banks 

The Reserve Bank of India recently issued discussion documents on the extent of ownership of banks as well as scalebased governance frameworks for NBFCs. While the industry provided feedback on both these documents, it is now eagerly awaiting the regulator‘s final decision and circular on the matters. It appears almost certain that larger NBFCs that have the potential to systemically influence the overall banking and financial services system may now enjoy less of a regulatory arbitrage and be subject to a governance framework akin to banks. With expected regulations around corporate houses being allowed to own a bank (albeit with restrictions), we can also expect significant consolidation in this segment resulting in a few large NBFCs either converting into a bank or merging with existing banks. The decision to convert into a bank though could also depend on the transition guidelines, especially those related to liquidity ratio. 

The Regulatory Approach 

The regulatory approach of the Reserve Bank has adapted to the increase in complexity of the entities within the NBFC sector as well as the growing significance of NBFCs within the financial sector. The core principles of NBFCs regulation, however, has remained intact, i.e., - a) protection of depositors (in case of deposit-accepting companies) and customers; and, b) preserving financial stability. The varying emphasis on these objectives at different points in time has led RBI to deploy different policy tools as appropriate. We must recognise that NBFC regulation has undergone certain fundamental changes in recent years.

Performance of NBFCs in Recent Times

Non-banking financial companies (NBFCs) have established themselves as an integral part of the financial landscape.  Using supervisory data, this article evaluates the performance of non-banking financial company (NBFC) sector in 2021-22 (up to Q3:2021-22) following the second wave of the pandemic on a number of parameters.

Highlights

The consolidated balance sheet of the NBFC sector exhibited double digit growth in the quarter-ending December 2021.

The gap between the spreads of AAA/AA- rated NBFC bonds began to reduce from January 2021 onwards and reached pre-covid levels in December 2021 indicating growing market confidence in the sector.

NBFCs continued to provide maximum credit to industrial sector followed by retail, services, and agriculture. The sectoral credit distribution remained largely unchanged in 2021-22 (up to end-December 2021) as compared to end-December 2020. All sectors witnessed high credit growth on account of base effect and resumption of economic activities.

The profitability of the NBFC sector improved in Q3:2021-22 compared to the corresponding quarter in 2020-21. NBFCs continue to maintain adequate provisions and their capital position remains strong.

INDIA COMMODITY MARKET 

India commodity market consists of both the retail and the wholesale market in the country. The commodity market in India facilitates multi commodity exchange within and outside the country based on requirements. Commodity trading is one facility that investors can explore for investing their money. The India Commodity market has undergone lots of changes due to the changing global economic scenario; thus throwing up many opportunities in the process. Demand for commodities both in the domestic and global market is estimated to grow by four times than the demand currently is by the next five years.

Commodity trading is an interesting option for those who wish to diversify from the traditional options like shares, bonds and portfolios. The Government has made almost all commodities entitled for futures trading. Three multi commodity exchanges have been set up in the country to facilitate this for the retail investors. The three national exchanges in India are:

• Multi Commodity Exchange (MCX)

• National Commodity and Derivatives Exchange (NCDEX)

• National Multi-Commodity Exchange (NMCE)

Commodity trading in India is still at its early days and thus requires an aggressive growth plan with innovative ideas. Liberal policies in commodity trading will definitely boost the commodity trading. The commodities and future market in the country is regulated by Forward Markets commission (FMC).

Bullion Market 

Gold is traded in many forms, primarily as jewellery, bullion and ETFs. Gold jewellery sales are predominant in India with a lot of traction observed during wedding seasons and major festivals. Gold bullions are the pure forms of gold generally sold in large quantities while gold ETFs are a type of commodity trading where price speculations and contract purchases happen. Bullion trading is the basic term given to trading of gold, and the bullion reserve of a country demonstrates how much wealth a country has. Since India is the world‘s largest importer and consumer of gold on the planet, its bullion market has a lot of promise. As a matter of fact, bullion‘s price is on the rise thanks to a decline in the value of the dollar in the international market. The export and import of gold has witnessed an increase in the number of restrictions in comparison with other commodities. India‘s bullion market is highly fragmented and bullion prices vary to significant extents in various parts of the country, and the lack of a common benchmark across the nation is cited as the primary reason for its unorganised bullion market.

Gold is generally sold in futures exchanges, where contracts are traded between sellers and consumers. The contracts are basically agreements between traders and sellers to deliver a predetermined quality and quantity of metal at a preagreed date. As these contracts can be margined easily, the market currently has a good amount of liquidity, and most of this liquidity is achieved through speculators who aspire to make profits on increasing gold prices. Thanks to the speculators, the retailers, refiners, producers and manufacturers, the gold sector is granted a safe haven against market risk. A relatively high percentage of gold futures contracts are delivered before the predetermined date, which means that the contractual commitments of consumers are liquidated before they take possession of the precious metal. However, speculation is not the only premise on which the gold industry operates. Though consumers in India have different options when it comes to the purchase of gold, gold prices in the country are often dictated by international events and global rates. 

Owing to their scarce availability in nature, most of the metals that have been categorised as ―precious metals‖ (they are quite few) have been historically considered as a form of currency. However, today they are regarded mainly as investment and industrial commodities. Nevertheless gold, silver, platinum and palladium still possess an ISO 4217 currency code, which indicates that they are not just commodities but de facto money. According to estimates, the gold acquired over the years in India is around 20,000 tonnes, the largest holdings by any country. Owing to limited bullion supplies, the demand has been largely met through imports.

Apart from the common man, central banks also have been holding gold reserves as a store of value right from the days of Gold Standard and Bretton Woods Standard. In 2009, the Government of India purchased 200 tonnes of gold from the International Monetary Fund (IMF) at $6.7 billion. This purchase propelled India to the tenth position among top gold reserves holding nations. 

Proposed Bullion Exchange at GIFT- IFSC

The Government of India could consider setting up a Bullion Exchange initially in GIFTIFSC to be an additional option in the choice of venue for trade for the global market participants and to be the primary intermediary for all gold imports and exports. Trading on this spot exchange is akin to trading on any international spot exchange such as London Metal Exchange or Shanghai Gold Exchange. International financial services centres (IFSCs) have two big advantages:  

• A regulatory regime that provides global credibility

• Sufficient exemptions from capital controls to make the global contract feasible The greatest concern for India today is the extent of import of gold in the country. As given in the earlier sections, the import of gold is linked directly to the vaults that are currently dispersed and have their own lines of trade mechanism. The Committee recommends the setting up of a Bullion Exchange in the GIFT-IFSC that can provide the following:  

• Allow import of gold in India through GIFT City. • Create a set of vaults in GIFT-IFSC for gold that adhere to standards set by the regulator.

• Vaults to work with the proposed Bullion Exchange being setup in India for distribution of the same in the local markets.

• Allow trading with global markets, which can create a vibrant marketplace that helps in price discovery, with potential for India to be the price setter in the gold commodity.

Base metals 

Metallurgy is one of the oldest applied sciences with history dating back to 6000 BC. Seven metals known as the Metals of Antiquity, namely gold (6000 BC), copper (4200 BC), silver (4000 BC), lead (3500 BC), tin (1750 BC), smelted iron (1500 BC), and mercury (750 BC), were the metals upon which ancient human civilizations were based. Today, there more than 85 metals known to human beings. In chemistry, the term base metal informally refers to a metal that oxidizes or corrodes relatively easily, and reacts variably with diluted hydrochloric acid to form hydrogen. It is a common and inexpensive metal, as opposed to a precious metal. Chemical, physical and aesthetic properties of the metal make them the preferred ingredients in a wide range of domestic, industrial, and technological applications. 

Wholesale Market 

The wholesale market in India, an important component of the India commodity market, traditionally dealt with framers and manufacturers of goods. However, in the present scenario, their roles have changed to a large extent due to the enormous growth that the economy has witnessed. The lengthy process of wholesalers buying from manufacturers; then selling it to retailers who in turn sold it to consumers does not seem feasible today. An improvement in the transport facility has made the interaction between the retailer and manufacturer easier; the need for a wholesale market is gradually diminishing. 

Retail Market 

The retail market in India is currently witnessing a boom. The growth in the India commodity market is largely attributed to this boom in the retail market. Policy reforms and liberal government policies have ensured that this sector is growing at a good pace. Some of the reasons attributed to the growth of retail sector in India include the large population of the country who has an increased purchasing power in their hand. Another factor is the heavy inflow of foreign direct investment in this sector. More than 80% of the retail industry in the country is concentrated in large cities. 

Agri Commodities 

Agriculture is the primary source of livelihood for about 58% of India‘s population. Gross Value Added by the agriculture and allied sector is 18.8% in FY 2021-22 (uptil 31 January, 2022). Agriculture and allied activities recorded a growth rate of 3.9% in FY 2021-22 (uptil 31 January, 2022). According to Inc42, the Indian agricultural sector is predicted to increase to US$ 24 billion by 2025.

Agriculture sector in India has always been a major field of government intervention since long back. Government tries to protect the interests of the poor Indian farmers by procuring crops at remunerative prices directly from the farmers without involving middlemen in between. This way Government maintains sufficient buffer stocks and at the same time provides the farmers safeguard against the fluctuating food crop prices. But government at the same time has restricted this traditional sector by fixing prices of crops at a particular level and also by imposing several other restrictions on export and import of agricultural commodities. All these restrictions prevented this sector to move out its traditional features. So according to many economists liberalization of this traditional agricultural sector could have been of great benefit to our economy. But questions will naturally come up about the maintenance of buffer stocks and provisions of remunerative prices to the farmers. In absence of government's intervention farmers will not be getting any prior information about the future markets of their products. Naturally a sudden price crash of food crops will have devastating effects on farmers. Here comes the significant role of futures market. If the buyers in the commodity market anticipate shortage of a particular crop in the coming season, future price of that crop will increase now and this will act as a signal to the farmers who will accordingly plan their seeding decisions for the next season. In the same way, an increase in future demand of food crops will be reflected in the today's price in futures market. In this way the system of futures market can be of great help to the Indian farmers preventing them from being directly exposed to the unexpected price changes all of a sudden. It also helps towards evolving a better cropping pattern in our country. If the peasants are farming some crop now and are very much concerned that price will crash by the time the crop comes in, then if there is futures market, they will have the option to sell their products in it. Price in the future markets being fixed; by selling products in future markets they get rid of their worries about the about the unexpected price fall. This helps them to take the risk of innovations, by using new high yielding varieties of seeds, fertilizers and new techniques of cultivation. Futures Market will act as a smoothing agent between the present and future commodity market. If the price, which is going to prevail in future, is high compared to what is it now, then the arbitragers would like to buy the commodities now to sell those in future. The reverse process is also true. So the existence of a futures market is always good for any economy. It opens up a new opportunity to people to protect themselves from unexpected risks. 

STOCK BROKING SECTOR

ICRA expects the broking industry to post a record performance in the current fiscal supported by the healthy participation of retail investors and favourable systemic liquidity. As per a recent note, the industry is likely to clock a total revenue of ~₹ 27,000-28,000 crore in FY2022, registering a year-on-year (YoY) growth of 28-33%. Given this backdrop, the outlook for the brokerage industry is Stable. However, the revenue growth rate is expected to taper to 57% in FY2023 with an expected industry total turnover of ₹ 28,500-29,000 crore; but again, growth remains contingent on capital market performance and maintenance of similar yields as seen in recent years.

While broking entities have been attempting to diversify their portfolio offerings, with increasing focus on other services/businesses, the core broking business is expected to account for 70-75% of the total revenues over the near to medium term. Giving further insight, Ms. Samriddhi Chowdhary, Vice President – Financial Sector Ratings, ICRA Ratings says, ―The domestic capital markets reported a steady increase in transaction volumes in the current fiscal after a strong performance in FY2021. The average daily turnover increased by 126% to ₹ 63.07 lakh crore in 9M FY2022 from ₹ 27.92 lakh crore in FY2021 (₹ 14.39 lakh crore in FY2020).

The market performance was supported by favourable liquidity in both domestic and international markets, better-than-expected corporate earnings, pick-up in economic activity, rising internet penetration and healthy participation of retail investors. We expect the markets to remain volatile, going forward, amid various domestic and international cues. While the transaction volumes have reported a month-on-month growth, primarily led by the derivatives segment during the quarter, prolonged subdued capital markets could have a bearing on the cash segment turnover and other allied capital market businesses, which, in turn, could impact the industry‘s earnings.

ICRA analysed the performance of its sample 18 brokerage companies, which also reflects the industry trends. The sample reported a strong uptick in earnings in FY2021, registering a Y-o-Y growth of ~38% in total revenues. The cost structure and operational efficiency of the brokerage companies also improved over the past few years with focus on customer acquisition through digital channels and improvement in economies of scale. With the continued market rally, the capital market related lending business particularly the margin trade funding book has scaled up significantly since March 2021, thereby leading to an increase in the borrowing level. In this regard, an analysis of 10 prominent retail-oriented broking companies shows that the aggregate capital market loan book (comprising margin funding products, loan against securities, employee stock ownership plan funding) scaled up by 141% to ₹ 11,076 crore as of March 2021 from ₹ 4,591 crore as of March 2020, and further to ₹ 18,643 crore as of September 2021 (growth of 68%).

Going forward, ICRA expects the gearing of the brokerage industry (particularly for larger entities with adequate ability to raise debt) to increase from the current levels. However, the performance of the lending book would remain sensitive to capital market movements. The increase in retail investors in capital markets can be witnessed in the new account openings in the industry. The total number of demat accounts increased to ₹ 806 lakhs as of December 2021 from ₹ 551 lakhs in March 2021 and ₹ 408 lakhs in March 2020. This translates into a net addition of ₹ 28.33 lakhs accounts per month in the current fiscal, more than twice the monthly addition of ₹11.91 lakhs in FY2021 (4.1 lakhs per month in FY2020).

Disclosures by prominent listed brokerage entities point towards an increasing share of younger age groups (less than 30 years) among new clients acquired. Given the increasing competitive pressure and cost of acquisition of clients, brokerage companies are focusing more on increasing the share of wallet. For instance, among the ICRA sample of retailfocused entities, the average revenue per active client increased by 25% to ~₹ 12,788 in FY2021 from ~₹ 10,238 in FY2020. 

Large established entities with a strong presence in online broking have increased their market share in the current environment. Many small brokers and sub-brokers have merged their operations with well-established players, given the increased regulatory oversight and the cost of implementing the processes. Going forward, larger and wellestablished brokerage companies are expected to garner market share.

The trend of consolidation is expected to continue with smaller broking players ceding market share to more established broking entities. The retail broking segment has become more dynamic and has witnessed a significant disruption in the last few years due to the growing prominence of discount brokerages. The competitively priced offerings of discount brokers and the no-frills basic accounts and services have resulted in the realignment of the pricing strategy across the industry.

FOREX TRADING 

During the half-year period under review, reserves decreased from USD 635.36 billion as at end-September 2021 to USD 607.31 billion as at end-March 2022. Although both US dollar and Euro are intervention currencies and the Foreign Currency Assets (FCA) are maintained in major currencies, the foreign exchange reserves are denominated and expressed in US dollar terms. Movements in the FCA occur mainly on account of purchase and sale of foreign exchange by the RBI, income arising out of the deployment of the foreign exchange reserves, external aid receipts of the Central Government and changes on account of revaluation of the assets. 

On a balance of payments basis (i.e., excluding valuation effects), foreign exchange reserves increased by US$ 63.5 billion during April-December 2021 as compared with US$ 83.9 billion during April-December 2020. Foreign exchange reserves in nominal terms (including valuation effects) increased by US$ 56.6 billion during April-December 2021 as compared with US$ 108.0 billion in the corresponding period of the preceding year. 

Initiatives taken by the government to increase forex

In order to increase the foreign exchange reserves, the Government of India has taken many initiatives like Aatma Nirbhar Bharat, in which India has to be made a self-reliant nation so that India does not have to import things that India can produce. Other than Aatma Nirbhar Bharat, the government has started schemes like Duty Exemption Scheme, Remission of Duty or Taxes on Export Product (RoDTEP), Nirvik (Niryat Rin Vikas Yojana) scheme etc. Apart from these schemes, India is one of the top countries that attracted the highest amount of Foreign Direct Investment, thereby improving India‘s foreign exchange reserves. 

Source: http://newsonair.com/2021/06/12/indias-forex-reserves-cross-record-600-billion-mark-soon-to-become-4thlargest-forex-reserves-holder-globally/) 

WAREHOUSING 

The Indian warehousing market was valued at INR 1,206.03 Bn in 2021. It is expected to reach INR 2,872.10 Bn by 2027, expanding at a CAGR of ~15.64% during the 2022-2027 period. Traditionally ranked among one of the overlooked sectors in logistics, warehouses today have developed into sophisticated stockrooms with advanced state-of-the-art facilities like real-time tracking mechanisms in India. Various initiatives taken by the Indian government have been driving the country's warehousing market towards growth, but investors had started taking cognizance of the sector much before the implementation of these reforms like granting infrastructure status to the logistics industry including warehousing.  

Market Insights 

The warehousing market is sub divided into four industrial segments namely industrial or retail warehousing, container freight station or inland container depot (CFS/ICD), agricultural warehousing and cold storage. The requirement for high-quality warehouse space, increase in automation, and ongoing demand driven by e-commerce and third-party logistics contributed to the robust expansion of investments in the logistics and industrial segments in 2021. Compared to USD 848 Mn received in 2020, the annual investment volume in 2021 jumped by 55% YoY to USD 1,313 Mn.

Warehousing Clusters Across Major Indian Cities 

Demand for warehouses has increased in India, and the strong deal pipeline points to a record-breaking net absorption of 42.5 Mn square feet in 2022 compared to 39 Mn square in 2021. Around 60% of the modern warehousing capacity is found in six metropolitan cities - Ahmedabad, Bangalore, Chennai, Mumbai, Delhi, and Pune. 3PL, e-Commerce, Fast Moving Consumer Durable (FMCD), Fast Moving Consumer Good (FMCG), Manufacturing and Retail industries are the major adopters of organized warehousing spaces in the country. In 2021, the Third-Party Logistics (3PL) sector acquired the maximum warehousing space, followed by e-commerce. The 3PL, e-commerce, FMCD, FMCG, and retail sectors acquired 31%, 31%, 5%, 5%, 4% of warehousing space, respectively. The FMCD, FMCG, and retail sectors outsource their space requirements to 3PL players. Therefore, their warehousing space requirement is less than that of 3PL sector. 

Competition Analysis 

The Indian warehousing industry is highly fragmented with several unorganized players operating in the market. Organized players in the industry account for only 10% of the total market, whereas around 90% of the warehousing space in the country is controlled by unorganized players who manage small-sized warehouses with less/no mechanization.

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