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Investment & Finance Sector Analysis Report 

[Key Points | Financial Year '23 | Prospects | Sector Do's and dont's]

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  • The financial services sector in India mainly consists of the capital markets (asset management, broking, wealth management, investment banking, depository companies) and non-banking financial companies (NBFCs). The market regulator has also allowed new entities such as payments banks to be created recently thereby adding to the types of entities operating in the sector.
  • The explosion of mobile phones, adoption of technologies such as cloud computing and rising pace of interconnectivity have led companies in the financial services industry to ramp up investment in information technology (IT) to better serve their end-customers.
  • The growth of the financial sector can be attributed to rise in financial inclusion, increasing penetration of financial assets, wider participation in equity markets and technology adoption
  • Rising awareness about benefits of investing in equity markets and growing popularity of ways of investing, such as SIP, are some of the factors contributing to the increased participation of domestic individual investors in the Indian mutual fund industry. The AUM of the mutual fund industry in India has grown at a CAGR of 15.5% over the past five years, with the equity AUM growing at a CAGR of 17.3%.
  • During the last five years, the Indian equity markets also achieved a healthy balance between the domestic institutional investors (largely Mutual Funds) and Foreign Portfolio Investors (FPIs), thereby significantly reducing the skew towards reliance on FPI inflows, lending more stability to the Indian markets.
  • The Indian equity market is expanding in terms of listed companies and market capitalization, widening the playing field for brokerage firms. In FY20, the number of listed companies on NSE and BSE were 1942 and 5461, respectively. Sophisticated products segment within the market is growing rapidly, reflected in the steep rise in growth of derivatives trading
  • The Government of India has taken various steps to deepen the reforms in the capital markets, including simplification of the Initial Public Offer (IPO) process which allows qualified foreign investors (QFIs) to access the Indian markets. India has scored a perfect 10 in protecting shareholder rights in the World Bank's Ease of Doing Business 2020 report.
  • There is a growing opportunity for depository companies (which hold demat accounts of investors) as there is a strong long term structural growth trend in the securities market.
  • The RBI's Internal Working Group (IWG) recently recommended significant changes with respect to NBFCs stating that large NBFCs with an asset size of Rs 500 billion, including those owned by large corporate houses, may be allowed to convert to private banks subject to completion of 10 years of operations and meeting due diligence criteria and compliance. For payments banks intending to convert to a small finance bank, track record of three years of experience as payments bank may be considered as sufficient.
  • The RBI has also decided to put in place guidelines regarding dividend distribution for NBFCs. Unlike banks, currently there are no guidelines in place. However, it has now been decided by the RBI that different categories of NBFCs would be allowed to declare dividend as per a matrix of parameters, subject to a set of conditions.

How to Research the Investment & Finance Sector (Key Points)

  • Supply
  • Plenty to meet personal finance needs but not enough to meet long-term infrastructure needs.
  • Demand
  • India being a growing economy, demand for long-term loans, especially infrastructure and personal finance is high.
  • Barriers to entry
  • Stringent regulatory norms prevent new entrants. Customers prefer to invest their money with a reputed financial services company offering a wide range of services.
  • Bargaining power of suppliers
  • Low, as the industry is highly regulated by the market regulator and government.
  • Bargaining power of customers
  • Medium. Although customers do not have much bargaining power, they can easily switch to another company based on the terms and quality of services provided.
  • Competition
  • Competition between big players is intense in the industry. Financial services companies often compete on the basis of offering lower financing rates, higher deposit rates and investment services
  • Threat of Substitutes
  • The threat of substitute products—payment services and peer-to-peer lending—continues to threaten the financial industry.

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Financial Year '23

  • As of 31 March 2023, the mutual fund industry’s assets under management increased by 5% to Rs 39.42 tn as against Rs 37.57 tn on 31 March 2022. Annual average AUM (AAAUM) for FY23 grew by 10% to Rs 40 tn from Rs 36.5 tn in FY22.
  • Equity-oriented AUM witnessed a growth of 11% to Rs 20 tn, driven by increased net flows, while nonequity-oriented AUM came in at Rs 19.42 tn, almost flat as compared to last year.
  • During FY23, the industry saw net inflows to the tune of Rs 1.8 tn in equity-oriented funds out of which Rs 0.18 tn came into equity-oriented index funds, while debt funds including debt-oriented index funds recorded outflows of Rs 0.8 tn, liquid funds saw outflows of Rs 0.51 tn and Others (including arbitrage funds, Exchange Traded Funds (ETFs) and Fund of Funds (FoF)) saw net inflows of Rs 0.27 tn.
  • In 2023, the NBFC sector reached an impressive size of US$ 326 billion, underscoring its expanding influence in the financial domain. The sector also showed resilience in terms of sound capital position, improved asset quality, adequate provisioning, and higher profitability.
  • Furthermore, the sector leveraged digitization to offer alternative financing options, especially to the MSMEs, which face challenges in obtaining loans from traditional banks.
  • During the year, the asset quality of NBFCs improved, with lower slippages leading to a decrease in the gross NPA ratio to its lowest level in five years. Provision Coverage Ratio (PCR) also increased from 51.5% at the end of March 2020 to 68.9% at the end of March 2023.
  • As at the end of September 2023, the asset quality of the sector showed further improvement as the gross non-performing assets (NPA) and net NPA ratios fell to 4.3% and 1.5%, respectively. This trend is expected to sustain only if the delinquencies and asset quality are maintained within acceptable limits, composition of unsecured loans in NBFC portfolio is in check and collections are optimized with use of technology and analytics.
  • M&A Activity hit a record US$ 171 billion in 2022. In April 2022, India’s largest private bank HDFC Bank announced a transformational merger with HDFC Limited. The merger marked the transformation of HDFC Bank into a financial services conglomerate that offers a full suite of financial services, from banking to insurance, and mutual funds through its subsidiaries. So far, the Bank was a distributor for these products.
  • The Reserve Bank of India (RBI) has, over the past few years, been bringing the regulatory framework of banks and that of non-banks into closer alignment. It indicated guidelines for conversion of large NBFCs into banks. It also scrapped the nonperforming asset (NPA) classification norms enjoyed by non-banks and housing finance companies, putting them in line with the 90-day period stipulated for banks.

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  • Two-thirds of India’s population lives in rural areas where financial services have made some presence so-far. However, rural India has seen a steady rise in incomes creating an increasingly significant market for financial services.
  • There are several standalone networks of Self Help Groups (SHG), Non-Government Organizations (NGOs) and Micro Finance Institutions (MFIs) in different parts of rural India. Cross-utilisation of these channels can facilitate faster penetration of wider suite of financial services in rural India.
  • Increasing use of technology to reach rural India is the paradigm-shifting enabler. Internet kiosk based channels are expected to become the bridge that connects rural India to financial services.
  • Rural credit segment is a large market, which can be tapped by ensuring timely loans that are critical for the agricultural sector.
  • Safe investment options have a potential to tap into rural household savings. Companies can use innovative products like third party money market mutual funds to cater to rural investment needs.
  • Lower mutual fund penetration of 5-6% reflects hidden growth opportunities. Deeper penetration of financial products, better regulation of equity markets, better performance of the funds and availability of simple products via technology are expected to shape the mutual fund industry in the coming years.
  • With the increasing retail penetration in the equity market, there is an immense potential to tap the untapped market. Growing financial awareness is expected to increase the fraction of population participating in this market.
  • India is one of the fastest growing wealth management markets in the world. The regulatory environment for fiduciary duties in wealth management is evolving and financial services companies can expect to benefit greatly from quickly adopting new investor protection measures.
  • Investment in required technologies, imbibing state- of-the-art best practices of advisory and creating customized and innovating products will help enable growth in the sector.
  • As the RBI allows more features between wallets and bank accounts, mobile wallets provide plenty of opportunity to companies to become strong players in the financial ecosystem. India's mobile wallet industry is estimated to grow at a CAGR of 148% to reach US$ 4.4 billion by 2022.

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FAQs on the Investment & Finance Sector

How has the finance sector performed in the past decade and when is a good time to invest in the sector?

The finance sector has been one of the sectors that has driven the stock market rally in the past decade giving returns of more than 200%. While it has lost some of the gains since the pandemic, it has bounced back with over 70% gains.

Finance stocks are very closely linked to economy as both credit growth and margins are dependent on GDP growth and interest rates. NBFCs tend to have high non-performing assets (NPAs) when interest rates are high and economy is underperforming. Adverse fluctuations in financial markets or conditions in the economy can also cause a decline in an AMC's assets under management and vice versa, having a direct bearing on its revenue and profitability.

Therefore, the best time to buy finance stocks is at the start of an economic expansion (in case of AMCs) or when interest rates are lower (in case of NBFCs).

To know more about the sector's past and ongoing performance, have a look at the performance of the NIFTY Finance Index and BSE Finance Index.

Where can I find a list of finance stocks?

The details of listed finance companies can be found on the NSE and BSE website. However, the financial information on these websites can be overwhelming.

For a more direct and concise view of this information, you can check out our list of finance stocks.

Which finance stocks were the top performers over the last 5 years?

Bajaj Finance, SBI Cards, and Bajaj Finserv were the top performers over the last 5 years in terms of sales and profit growth.

Bajaj Finance, with its strong business profile has emerged as one of the largest retail asset financing NBFCs in India and has grown on the back of its two-pronged strategy of building scale and maximizing profit.

SBI Cards, on the other hand, has grown on the back of the strong support it receives from its majority shareholder, State Bank of India an ongoing basis as well as in the event of distress.

Majority ownership and shared brand imply a strong moral obligation on SBI to continue supporting SBI Cards in meeting the debt obligations in a timely manner.

Bajaj Finserv's growth can be attributed to the growth of the Bajaj Finserv and other businesses since it is the holding company for the various financial services businesses under the Bajaj group.

To know which other companies performed well over the last 5 years, use Equitymaster's stock screener.

What kind of dividend yields do finance stocks offer?

Since finance companies have to provision for potential bad loans, these provisions generally lower profits for the company. And as dividends are mostly paid from the remaining share of profits once essential expenses are met, not all finance stocks can steer you to handsome dividends.

However, there are some finance stocks that have a history of paying dividends.

To know which are these companies, check out our list of top finance stocks offering high dividend yields.

Which are the finance stocks with the best shareholder returns?

Shareholder returns measure the total returns generated by a stock to an investor. This profitability helps gauge a company's effectiveness when it comes to using equity funding to run its daily operations. In the Indian stock market, Bajaj Finserv, Bajaj Finance and REC are the top finance stocks right now with the best shareholder returns.

To know which other finance stocks offer great return on equity, you can check out the top finance stocks offering the best shareholder returns here.   

Which are the best finance stocks to invest in currently?

Investing in stocks requires careful analysis of financial data to find out a company's true worth. However, an easier way to find out about a company's performance is to look at its financial ratios.

The most commonly used valuation ratio for non-lending finance businesses (AMCs or Demat companies) is the Price to Earnings ratio while the most commonly used valuation ratio for lending businesses (NBFCs or Housing Finance companies) is the Price to Book value ratio.

  • Price to Earnings Ratio (P/E) - It compares the company's stock price with its earnings per share. The higher the P/E ratio, the more expensive the stock.

    To find stocks with favorable P/E Ratios, check out our list of finance stocks according to their P/E Ratios

  • Price to Book Value Ratio (P/BV) - It compares a firm's market capitalization to its book value. A high P/BV indicates markets believe the company's assets to be undervalued and vice versa.

    To find stocks with favorable P/BV Ratios, check out our list of finance stocks according to their P/BV Ratios