Credit quality of debt investments: more positives, few negatives

Corporate credit ratio

Credit rating companies publish a metric called credit rating ratio or simply credit ratio. It is the ratio of the number of entities that were upgraded to those that were downgraded in a period of six months or one year. If 100 entities were upgraded and 100 were downgraded, the ratio is 1. Hence 1 is the “par" number and anything more than 1 is positive.

For Crisil, the credit ratio was 2.64 in the second half of FY25 (October 2024 to March 2025). Crisil upgraded 423 entities and downgraded 160. In the first half (April to September 2024), the credit ratio was 2.75. After FY21, Crisil’s credit ratio has been significantly more than 1.

For Icra, the ratio was 2 in FY25. There were 301 upgrades and 150 downgrades. As in the case of Crisil, Icra’s credit ratio has been in a range of 2 to 3 since FY21. For CareEdge, the ratio was 2.35 in the second half of FY25 and 1.62 in the first half.

Reason for improvement

The sanguine credit ratio of rating companies points to the healthy debt repayment profile of rated companies. There must be something going well for the corporate sector that’s leading to the improvement in its credit outlook.

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There are multiple aspects – one big factor is deleveraging. The more debt that companies carry on their balance sheets, the lower their capability to service that debt. With lighter balance sheets, they are better placed.

Icra analysed the balance sheets of more than 6,000 entities. Total debt divided by operating profit, i.e. (bank loans + bonds issued) divided by profit before interest, tax and depreciation, is the metric. In FY20, this ratio was about 3.5 times. To recall, FY20 was a normal year – the covid lockdown started in the third week of March 2020. In FY24, this metric was 2.1 times.

Rating company CareEdge carried out a similar analysis on the parameter of debt-to-equity ratio of companies. Total debt/equity, which was 1.3 in March 2015, eased to 1.07 in March 2024. 

Lower bank NPAs

The other perspective on macro credit quality is the non-performing assets (NPAs) of banks. As per the Reserve Bank of India, gross (prior to writeoffs) NPAs in the banking sector were 9.6 percent of loan assets in March 2017. This eased to 2.6 percent in September 2024. 

Net NPAs (after writeoffs) eased from 5.5 percent to 0.6 percent over the same period. The NPAs of banks, apart from their due diligence and risk underwriting, reflects the credit environment.

Small concerns

As per the RBI, the microfinance sector is showing signs of stress, with rising delinquencies across all types of lenders and ticket sizes. From April to October 2024, the share of stressed assets increased.

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Loans that are 31-180 days past due went up to 4.3% in September 2024 from 2.15% in March 2024. The share of borrowers availing loans from four or more lenders increased to 5.8% in September 2024 from 3.6% in September 2021.

In the context of consumer credit, rising impairment was seen in unsecured retail loans. Almost half of the borrowers availing credit cards and personal loans also have another live retail loan outstanding, which is often a high-ticket loan such as a housing and/or vehicle loan.

Conclusion

In your investment portfolio, you have exposure to corporate debt, mostly through investment vehicles like mutual funds. As long as the credit environment is robust, your money is well-placed.

This has to be seen in the context of the default cycle from September 2018 that started with Infrastructure Leasing & Financial Services Ltd. There were multiple defaults in 2019. Not just debt, but when the system is disturbed, it impacts equity investments as well. From that perspective, companies and banks are well-placed.

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Coming to the other side of the coin, if you have availed of personal loans from banks or non-banking financial companies, discipline is imperative. The buy-now-pay-later culture apparently looks attractive because you get to enjoy life. However, once you lose the handle on your finances, it becomes difficult to manage.

Joydeep Sen is a corporate trainer (financial markets) and author.