MICROCAPITAL STORY: Evaluating Microfinance’s Performance in Turbulent Markets, Part 1 of a 4-Part Series on the Cracking the Capital Markets III Conference Hosted by ACCION and Credit Suisse

From March 10-11, 2008, ACCION International held the third Cracking the Capital Markets conference on microfinance investment. ACCION is a private, non-profit microfinance organization, specializing in global micro-enterprise loans, business training, and other financial services. The conference was co-hosted by Credit Suisse and brought together hedge fund managers, institutional and private investors, leading rating agencies, and microfinance institutions (MFIs) to discuss the challenges, successes, and future of microfinance investments. The second and third articles of this series can be found on MicroCapital’s website.

The conference’s second panel discussion focused on how the global liquidity crunch has affected MFIs’ performance and investor interest in microfinance. Panelists agreed that the market downturn and credit crisis has not yet extended to microfinance market. There has been continued interest in microfinance investment and no apparent increase of general MFI credit risk. However, microfinance is not completely impervious to market downturns and a prolonged recession could reduce MFIs’ funding sources. Furthermore, increasing integration with capital markets could amplify MFI future susceptibility to market fluctuations. The panelist presentations can be found here.

Panel moderator and partner of Developing World Markets (DWM), Brad Swanson used DWM’s securitized portfolio of loans to 26 MFIs as an example of MFI performance in a turbulent market. While the market volatility index (VIX) increased in the summer, asset growth of the 26 MFIs remained steady aside from some summer seasonality. In terms of performance, annualized ROA and ROE were also stable, with steady net income growth. Thus the MFIs continued to grow quickly despite the liquidity crunch with a combined gross loan portfolio growth of 80 percent since December 2006. Furthermore, microloan borrowers are not closely tied to capital markets, as evident by a stable portfolio at risk greater than 30 days. DWM is a fund manager and investment bank whose goal is to use capital markets for sustainable development.

Providing an MFI’s perspective, Andrew Pospielovsky, CEO of Microfinance Bank of Azerbaijan (MFBA), spoke about the effects on MFIs’ access to capital markets. MFBA is a bank which focuses on providing financial services to micro and small enterprises in Azerbaijan. As of March 2007, MFBA had a gross loan portfolio of USD 114.5 million, debt to equity ratio of 713.9 percent, and 49,596 active borrowers.

MFBA recently refinanced its debt in order to fund expansion of its portfolio. Mr. Pospielovsky stated that MFBA’s desire for growth has been unhampered as investors appear to understand the difference between U.S. subprime markets and MFIs in sub-prime countries. While considered successful, the refinancing deal was affected by the credit crunch in three ways: a reduction in bond take-up, higher price, and a CDO delay. In order to remain attractive to investors, MFBA looks to strengthen its risk profile, improve its efficiency, and get a mainstream rating as it’s currently rated by M-CRIL.

Rod Dubitsky, Credit Suisse’s Head of Research for Asset Backed Securities, discussed what the microfinance industry could learn from the fall in the subprime markets. He noted how easy financing of capital markets due to unleashed demand led to irresponsible lending. In addition, the subprime crisis was worsened by investors heavy relying on mainstream ratings, the rating system no longer functioning given the dramatic growth in the subprime market, and historical correlations changing during the crisis. Thus he emphasized the importance of the microfinance industry working with the rating agencies to create an effective rating system. Regarding irresponsible lending, Mr. Dubitsky recognized the benefits of MFIs’ close relationships and better understanding of their clients. He also questioned the robustness of the industry’s current risk metrics as the market grows, charging industry experts to think about the relevance of historical business models and performance given that the market will grow.

The final panelist and Columbia Business School professor, Dr. Geoffrey Heal commented on what can be learned from other emerging market asset classes during turbulent markets. Over the last 20 years 90 percent of emerging markets have shown increasing correlation with Western markets due to globalization. However, there are theoretical arguments for microfinance behaving differently from classic emerging markets such as sovereign debt. For instance, the interest rate insensitivity and the high productivity of microfinance loans argue for continued demand and repayments. Dr. Healy presented empirical evidence, but conceded that it is hard to draw large conclusions given the limitations of the data set.

by Jennifer Lee

Additional Resources:

ACCION: Home, Cracking the Capital Markets Conference

Credit Suisse: Home

Developing World Markets: Home

Microfinance Bank of Azerbaijan: Home, Mix Market