Tiny Loans, High Finance

On a foggy September morning at dawn more than two dozen women wearing colorful saris, little green books in hand, are sitting in rows on the terrace of a private home in Pothaipalli village -- a poor rural area in the central Indian state of Andhra Pradesh. A young man patiently collects cash from each woman, then makes a notation in her loan book. The women are paying back tiny loans from Share Microfin Ltd., a Hyderabad microfinance institution that serves 415,000 households in four Indian states.

This kind of small-lot lending to the impoverished has been around since the 1980s. Time and again it has been proved that just $50 can make a huge difference for an entrepreneurial villager, who can build a business around a new cow, a sewing machine, or a chicken coop. Development economists have also long remarked on the near-zero default rates of these credits.

Now the women of Pothaipalli are linking up with global capital markets. Their loans are being bundled with thousands of others and sold off as part of a $5 million securitization deal. The microloans' move into the world of high finance is designed to raise money for more microcredit while at the same time parceling out risk and providing investors with a stable, income-generating security.

It works like this: The income stream from thousands of microloans is repackaged into an asset that mutual funds and insurance companies such as Life Insurance Corp. of India buy in the form of interest-bearing notes. If it takes off, the formula could revolutionize the world's estimated $10 billion microcredit market by bringing in new and cheaper funding derived from the sale of this paper. Securitizing microfinance loans "is the most effective way of [getting] market capital to the rural poor and pulling them out of poverty," says Subir V. Gokarn, chief economist of top Indian rating agency Crisil Ltd. "India's efforts could take microfinance to the next level."

India's pioneering program falls under the country's Securitization Act of 2002, which has not been fully implemented but has already spawned 221 deals worth $7.7 billion. The new legal structure and involvement of private banks lends India's model credibility that could help it spread throughout the developing world, says Priya Basu, a senior economist at the World Bank in New Delhi.

In Share Microfin's case, India's biggest private financial institution, ICICI Bank, securitized $4.3 million from the microloan portfolio and wrapped it up with $1 million in crop loans from Basix, India's oldest microfinance institution. Two other banks snapped up 60% of the April offering. With the money from ICICI, which used the deal to meet part of its state-mandated rural-lending quota, Share was able to add $4.3 million to its $137 million microcredit budget. ICICI is currently working with 30 different microfinance groups to securitize their loans in the coming months and years. The upshot: Capital markets get access to the entrepreneurial spirit of rural India, and villagers get more loans to generate wealth. Twenty-nine-year-old Lata Dayala, for example, borrowed $435 last year and now earns $87 a month from the little provision store she has set up in Pothaipalli -- enough to send her three children to private school. She has even been able to repay two-thirds of her loan. "And now," she says shyly, "my husband treats me more like an equal."

Of course, $4.3 million does not a market make. And not all microcredit gurus are so sure securitization will take off. "Securitizing microfinance portfolios is beginning to develop, but you don't have a large enough portfolio in any given country that you can bundle it and put it out in the international capital markets," says Maria Otero, president of Accion International, a Boston nongovernmental organization that provides technical assistance to microcredit banks worldwide.

India's banks are mandated to extend 40% of their lending to rural areas, but because few actually meet that obligation they're interested in ICICI's program. Basix, for example, covers 4,000 villages and has 500 representatives, most of whom live in the villages they serve. "Basix is integrated into the lives of the villages. Regular banks simply don't have those structures," says Rupa Kudwa, chief rating officer of Crisil.

At the same time, ICICI's role has lent greater credibility to microfinanciers such as Basix, which has eased their access to capital. That's a far cry from the days when bankers wouldn't even give Share's founder, Udaia Kumar, a hearing. Now Kumar has big plans. "Over the next five years, I need $150 million to serve 1.1 million more customers," he says. With global investors pumping in new money through securitization, that goal may be within reach.

By Manjeet Kripalani in Bombay with Cristina Lindblad in New York

— With assistance by Cristina Lindblad

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