IL&FS cause liquidity crunch

IL&FS cause liquidity crunch
The risking risk of loan default by the Infrastructure Leasing & Financies Services Limited firm raises concerns about market stability, which will be affected by the company’s failure to repay its debt. This can lead to unfavorable conditions for the money markts and the country’s economy. A stock market is where..

The risking risk of loan default by the Infrastructure Leasing & Financies Services Limited firm raises concerns about market stability, which will be affected by the company’s failure to repay its debt. This can lead to unfavorable conditions for the money markts and the country’s economy.

Background

A stock market is where investors meet to buy and sell shares. It is the place where stocks and bonds are bought and sold. There are 16 stock exchanges (bourse) in the world that have a market capitalization of over US$ 1 trillion each. The Bombay Stock Exchange in India is ranked 11 globally. The stock market is considered a key section of a free-market economy. It provides companies with access to capital in exchange for giving investors a slice of ownership.

The Infrastructure Leasing & Financial Services Limited (IL&FS) is an Indian infrastructure development and finance company. IL&FS was originally promoted by the Central Bank of India, Housing Development Finance Corporation (HDFC) and Unit Trust of India (UTI). Currently, its institutional shareholders include State Bank of India (SBI), Life Insurance Corporation of India (LIC), ORIX, Abu Dhabi Investment Authority and Greenspring Associates.

As of 2018, IL&FS has over 300 group companies, including subsidiaries, joint ventures, and associate entities. IL&FS has several projects in different sectors including Transportation, Area Development, e-Governance, Health Initiatives, Cluster Development, Finance, Power, Ports, Water and Waste Water, Urban Infrastructure, Environment, Education, and Tourism. 

Read more of our Indian stock market coverage here and about IL&FS here.

Analysis

The infrastructure lender IL&FS has raised concerns about the risk of loan defaults, causing a sharp drop in the benchmark Nifty index. As a major player in India’s non-banking financial sector, IL&FS’s difficulties in repaying its debts has significant consequences. Highlighting the systemic risks and liquidity problems with IL&FS has impacted the money markets, where shadow lenders are jolted by a lender seen as too big to fail. This shock is amplified by the weakened rupee, which has further reduced liquidity.  Refinancing risks are also rising, adding to the concerns about India’s bad debt ratio, which is highest in the world after Italy. 

The Reserve Bank of India and national security regulators released a joint statement indicating that they are closely watching the financial markets are prepared to intervene if necessary. These efforts to calm markets and investors served to be fruitless as fears about IL&FS impacted domestic bonds, stocks and the Indian rupee. The risk of defaults has also been detrimental to domestic rating agencies, which previously gave favorable ratings to these non-banking lenders.  

With state elections at the end of this year and national elections next May, a major correction in equity markets could be detrimental to Prime Minister, Narendra Modi’s, reelection campaign. The dearth of jobs and rising fuel prices has already resulted in growing discontent with the current Prime Minister and his political party, the Bharatiya Janata Party (BJP). Compounded by the shock to equity markets, Modi and the BJP will have a harder time maintaining their electoral base. 

Assessment

Our assessment is that the recent risk of default by major players in the non-banking financial sector and the subsequent downturn of the stock market is unlikely to dissipate quickly. We feel that fears about market instability can often be a self-fulfilling prophecy. We also feel there is a likelihood that this will lead to a panic rush, where nervous savers withdraw money previously deposited in mutual funds, causing further market weakness and creating a vicious cycle. The multiple negative effects that will arise from this situation can indicate a significant change in India’s economic growth.

Comments