External Benchmarking: How New Home Loan Rates Compare Across Banks
The Indian banking system moved to a new loan pricing regime on Tuesday with lenders announcing interest rates linked to an external benchmark. Starting Oct. 1, all banks have to link floating rate retail and small business loans to an external benchmark, the Reserve Bank of India mandated last month.
Large banks have started to announce the interest rates applicable to products like home loans. The rates include three components: the external benchmark chosen + the spread fixed by the bank + a small mark-up based on operational costs.
Most banks have picked the RBI’s repo rate as the external benchmark so far, although lenders also have the option to link loan rates to treasury bill yields. The spreads charged across private and public sector banks differ widely based on announcements made so far. The difference between private and public sector bank interest rates for home loans now stands at around 65-80 basis points compared with 15-75 bps before.
For borrowers, this means that a home loan taken from a public sector bank may prove to be cheaper than one from a private lender.
Who’s Offering What?
Not all banks have detailed their rate structures so far. BloombergQuint has compiled rate structures made public.
State Bank of India
The country’s largest lender is offering an effective rate of 8.2 percent on home loans. This includes the repo rate of 5.4 percent + a spread of 265 basis points + a mark-up of 15 basis points.
The spread accounts for the operational cost and any administrative charges, which a bank takes on servicing the loan. The mark up accounts for the risk profile of the customer and may vary depending on the borrower’s credit score.
Under the RBI’s new rules for external benchmarking, the credit risk premium may be altered only if the customer’s credit score either increases or decreases by a large margin. Banks can only change the spread once in three years.
Bank of Baroda
Bank of Baroda’s effective home loan rate works out to 8.35-9.35 percent.
That rate includes the repo rate of 5.4 percent and a spread of of 295 bps. Over and above this, the bank may charge a strategic premium of 100 bps, depending on the customer’s credit quality.
For Bank of Baroda staff, the base home loan rate will be 8.35 percent, the bank said.
Bank of India
Bank of India will charge a mark up of 285 bps, over the 5.4 percent repo rate, which will account for the operational cost and any administrative expenses.
The bank will charge a credit risk premium of 25 bps for customers with a credit score above 760. If the credit score is between 725-759, the credit risk premium for salaried customers is set at 30 bps. Customers with credit scores below 725 will be charged a premium of 40 bps, the bank said.
As such, the bank’s home loan rate is between 8.50-8.65 percent.
Union Bank of India
Borrowers at Union Bank of India will pay anywhere between 8.25-8.3 percent, depending on their credit score, for loans between Rs 30-75 lakh.
The spread, which the bank will charge over the repo rate stands at 285 bps and the bank may also charge a 5 bps credit risk premium, if the customer’s credit score is lower.
For loans under Rs 30 lakh, the bank has set a fixed rate at 11.4 percent, according to information available on its website.
According to a stock exchange notification, Canara Bank has set its spread at 290 bps, over the repo rate, which will bring the effective external benchmark linked rate to 8.3 percent.
It did not specify if it would charge a credit risk premium over and above this.
Interestingly, private banks are charging a far higher spread over the external benchmark compared with their state-run peers.
While ICICI Bank did not specify what part of its spread was owing to operational cost and which one because of credit risk premium, it said that it will charge a spread ranging between 350-380 bps.
This would mean that a Rs 35 lakh home loan would come at an interest rate of between 8.9-9.2 percent. On its website that bank clarified that it will also charge a processing fee of 1 percent, over and above the interest rate.
Similar to ICICI Bank’s offering, Axis Bank said it will charge a spread ranging between 345-390 bps, depending on the credit quality of the customer.
This would bring its effective lending rate between 8.85 percent to 9.3 percent.
HDFC bank, India’s largest private lender, hasn’t yet come out with its external benchmark linked lending rate product, as the bank has largely fixed rate loans on its retail lending portfolio, Aditya Puri, managing director and chief executive officer, told BloombergQuint.
Asked about whether the bank would launch floating-rate loans in the coming months, Puri said there is little demand for such products. “Globally at the lowest point of the interest-rate cycle people want a fixed-rate not a floating-rate loan.” He also does not see floating rate deposit products pick up in India.
What Does This Mean For Banks?
The eventual impact on banks, their lending margins and profitability will depend on the overall rate structure.
Still, analysts believe that public sector banks and smaller housing finance companies are likely to see a negative impact on their margins, owing to the lower spreads that they will have to charge their customers. Private banks may gain, at least in terms of profitability.
“We expect that large private banks, having a strong retail client base, will be able to price their loans to sustain margins in the long term. That said, in the near term, the sector may look at some margin pressure as the new rate cycle gets absorbed in the system,” said Lalitabh Shrivastawa, banking analyst with Sharekhan.
The banking regulator had first floated the idea of external benchmarking of lending rates to bring in more transparency in how banks price their loans. Under the previous base rate and MCLR regimes, banks had considerable discretion in setting their lending rates, which was not clear to customers.
The conversation around external benchmarking of lending rates began in December 2018, but the move was deferred. Finally, driven by concerns about a lack of transmission of monetary policy rate cuts, the RBI made the move mandatory for all lenders starting Oct. 1.