Stress Spreads to Secured Loans as Micro-LAP Delinquencies Rise
Indian financial institutions are witnessing a concerning trend as stress in their microfinance portfolios gradually extends to secured loan products. Overleveraged customers are increasingly delaying repayments on small-ticket loans against property, marking a significant shift in the lending landscape.
This development comes less than a year after the Reserve Bank of India issued warnings about potential spillover effects from unsecured lending to secured loan categories. Recent earnings commentary from non-banking financial companies and housing financiers for the September quarter confirms these concerns have materialized.
Analysts Connect the Dots Between Loan Segments
According to financial sector experts, the underlying borrower base shows considerable overlap between microfinance and micro-LAP customers. Anil Gupta, senior vice president and co-group head of financial sector ratings at ICRA, emphasized that many customers struggling with microfinance repayments are experiencing weakened repayment capacity on secured loans as well.
While micro-LAP loans involve collateral and typically maintain lower delinquency levels, the transmission of stress from unsecured to secured products has become evident across lender portfolios. The situation represents a notable departure from what was previously considered a relatively stable asset class.
Lender Performance Shows Worsening Trends
Piramal Finance, where mortgages constitute 56% of total assets under management, reported increasing delinquencies in their LAP segment. Loans with repayments delayed by more than 90 days rose to 0.6% at the end of September, compared to 0.5% a quarter earlier and 0.3% during the same period last year.
Jairam Sridharan, managing director and chief executive of Piramal Finance, noted during an October 17 earnings call that the micro-LAP segment remains under visible stress. He warned that micro-LAP will get worse before it gets better and expects the business to remain under pressure for at least a couple more quarters.
Five Star Business Finance, a major secured lender to small businesses, also experienced deteriorating asset quality. The company's gross stage 3 assets increased to 2.64% as of September 30, up from 2.46% the previous quarter and 1.47% a year earlier.
Collateral Enforcement Challenges Emerge
The micro-LAP segment faces unique challenges in collateral enforcement, particularly in smaller towns. Jinay Gala, director at India Ratings and Research, highlighted that collaterals in tier-3 to tier-5 towns are very difficult to enforce, with distressed sales typically resulting in 30-50% valuation losses.
This situation creates an additional complication for lenders, as borrowers recognize the reluctance to liquidate collateral and sometimes use this as a negotiation tool when facing cash-flow challenges.
New entrants to the micro-LAP segment are adopting cautious approaches. IndoStar Capital Finance is taking a calibrated expansion strategy, emphasizing portfolio quality and risk-reward discipline while aiming to grow LAP to 20-30% of total AUM.
Despite current challenges, the micro-LAP segment continues to show growth potential. According to CARE Edge Rating, the total micro-LAP loan book is expected to grow more than 25% in FY26, driven by self-employed borrowers and small businesses seeking secured, affordable funding options.
