Indian bank scraps ‘teaser’ home loans

The State Bank of India, the country’s largest commercial bank, has been forced to withdraw “teaser” mortgage loans amid fears of repeating the lending follies of the US subprime crisis.

Under pressure from the Reserve Bank of India to curb what the regulator considered potentially reckless lending, the SBI said last week that it would scrap the home loans from May.

The loans, launched two years ago, quickly gained popularity with first-time buyers and accounted for as much as half of new mortgage business.

India’s mortgage market is growing fast as property prices strengthen. Developers in the fastest-growing large economy after China are marketing apartment complexes heavily to offer modern city living to a growing middle class.

Teaser loans offer initially low repayment rates over one to three years that then escalate. They were also initially provided by HDFC and ICICI banks, but later withdrawn.

Critics say the tiered pricing is often not well understood by borrowers, who are unprepared for higher repayments as the loan matures. They also worry about rising defaults at a time when the RBI is raising interest rates to rein in the highest inflation of any large Asian economy.

Teaser loans were promoted aggressively by O.P. Bhatt, former chairman of state-owned SBI. He argued that the RBI had not understood their benefit to the bank and its customers. They were withdrawn soon after Mr Bhatt’s retirement from the bank and replacement by Pratip Chaudhuri.

The loans were extended to about 300,000 customers, and accounted for about Rs100bn ($2.2bn).

Mr Chaudhuri said the bank’s teaser loans had not complied with central bank guidelines, but their withdrawal would not affect his bank’s performance.

“We are changing the interest rate structure which will be compliant with RBI’s guidelines on tiered loans but will not result in a higher interest pay-out for the borrower,” he said.

In its Economic Survey, published this year, the finance ministry praised SBI for its Happy Home Loan and Easy and Advantage Home loan. The “terraced” lending instruments had encouraged first-time buyers into the market.

Both held interest constant for the first 12 months of repayment. About 90 per cent of the home loan borrowers were first-time buyers. Yet defaults – still early in the life of the mortgages – were “negligible”.

“It is worthwhile giving banks and financial institutions the freedom to introduce new products and thereby expand the options available to consumers and firms,” the ministry had recommended.

Financial authorities have been in a state of high alert about new widely marketed products and complex structured finance in the country’s housing market. Although the global financial crisis hardly touched India, the central bank is highly sensitive to risks similar to the subprime housing mortgage market and its failure in the US.

Two products have come under scrutiny in what is already a highly regulated economy. Alongside the teaser loans, collateralised debt obligations have drawn concern.

CDOs package up different mortgages of varying risk, slices of which are then sold off to financial institutions. They are notorious for being difficult to rate for risk and have a big “handle with care” sign stamped all over them after wreaking destruction in the world’s financial markets.