Shedding their conservative image, public sector banks are increasingly extending loans with virtually no collateral.
Unsecured loans by public sector banks grew 40.9% in FY08, higher than the growth recorded by private sector banks, which collectively recorded a 39.7% growth during the same period.
These loans typically comprise a host of personal loan products that are riskier than secured loans. They are predominantly advances to individuals and include small-ticket education loans, credit card receivables, loans against salaries and consumer durable loans. But a small portions of corporate loans, such as bill discounting and overdrafts, too are at times deemed unsecured.
Notably, among the banks with a perceptible portfolio of unsecured loans, many smaller banks — private and public — have more than doubled their unsecured loan portfolio, like Allahabad Bank (140%), Central Bank of India (104%), Indian Overseas Bank (106%), Karur Vysya Bank (101%) and Catholic Syrian Bank (144%).
As a whole, the banking sector extended Rs 5,72,160 crore as unsecured loans in FY08, up 41.6% from Rs 4,04,067 crore in FY07. In line with the industry trend, new-age banks like ICICI Bank (31%) and HDFC Bank (40%) also have recorded a steady growth of their unsecured loan portfolios.
Since unsecured loans are not backed by any asset as collateral or even a guarantee, these loans carry higher risk weights. However, unlike a regular loan extended as project finance or a home loan, which is backed by a solid collateral, these loans are often extended at a significant premium to the benchmark prime lending rates of a bank.
According to Chiragra Chakravarty, principal consultant, PricewaterhouseCooper’s, a higher growth in unsecured loan is not bad. In fact, returns are higher on such loans. However, in times of an economic slowdown, the credit risk is enhanced in the economy and the unsecured loan portfolios of banks are hit first as the number of defaults tend to go up. Since most of these loans are small-ticket advances, the value is not generally high. But banks need to be watchful and be more careful in their risk management.