The Reserve Bank of India (RBI) has issued a cautionary warning to non-banking financial companies (NBFCs), advising them to be wary of relying too heavily on algorithm-based credit models and to refrain from excessive lending in specific sectors.
Deputy Governor Swaminathan Janakiraman addressed this concern in a speech published on the central bank's website, targeting heads of assurance functions, including chief compliance and risk officers, and heads of internal audit from selected NBFCs. The conference saw participation from approximately 280 representatives of over 100 NBFCs.
Janakiraman stressed the importance for NBFCs to maintain a realistic view of their capabilities and limitations, advocating for continuous monitoring and validation of credit scoring models. He emphasised the necessity for periodic validation to ensure the relevance of these models over time.
The deputy governor cautioned against setting high-risk limits for segments like unsecured loans and urged risk managers to conduct professional assessments of risks accumulating in their portfolios.
Janakiraman noted a trend among NBFCs to focus heavily on certain products like retail unsecured lending, top-up loans or capital market funding, warning that over-reliance on such products could lead to future troubles.
Additionally, he advised NBFCs to adopt prudent liquidity management practices, including diversifying funding sources, maintaining adequate liquidity buffers, monitoring maturity profiles and establishing contingency lines to mitigate liquidity risks and ensure smooth operations.
Highlighting the risks associated with relying on a limited number of funding sources and maturity mismatches between assets and liabilities, Janakiraman stressed the importance of stress testing and scenario analysis to assess resilience to adverse liquidity shocks.
Furthermore, he reiterated the RBI's commitment to taking appropriate supervisory action in cases where regulations are circumvented, emphasising that such practices undermine regulatory frameworks and compromise market stability, eroding trust and confidence in the financial sector and exposing consumers, investors and the broader economy to risks and vulnerabilities.
