Non-Banking Financial Companies Face Rising Bond Yields Challenge After Strong Q4 Performance

NBFCs End FY26 on a Strong Note, but Rising Funding Costs Emerge as a New Risk

Non-banking financial companies (NBFCs) concluded the fiscal year 2026 on a robust note, driven by healthy loan growth, resilient retail demand, and stable asset quality. However, investors may now need to monitor a new risk on the horizon: increasing funding costs. A recent report by Kotak Institutional Equities warns that the operating environment could become more challenging in the coming quarters as bond yields and borrowing costs begin to rise.

According to the report, the incremental cost of funds for most NBFCs has already increased by 30-50 basis points since February 2026 due to rising government bond yields and wider credit spreads. The benchmark 10-year government bond yield has surged sharply in recent months as global crude oil prices increased and geopolitical tensions in West Asia rattled financial markets. Kotak estimates that government bond yields have risen by around 37-38 basis points since February, while yields on AAA-rated corporate bonds have increased by 30-50 basis points.

For NBFCs, this matters greatly because they borrow money from banks, bond markets, and other institutions before lending it to customers. When borrowing costs rise, profit margins can come under pressure unless lenders are able to pass on higher costs through increased loan rates. Kotak believes the impact may not be immediate, as many lenders are still benefiting from lower-cost borrowings raised earlier. However, margin pressure could become more visible in the second half of FY27.

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Another challenge could come from monetary policy. Kotak's economists expect a 50-basis-point repo rate hike in the second half of FY27. A large share of NBFC borrowings is linked to external benchmark lending rates (EBLR) or repo-linked rates, making them more sensitive to interest-rate increases.

Fortunately, the brokerage does not see a major profitability shock on the horizon. One reason is that refinancing pressure remains low. Kotak estimates that only 2-4% of total NBFC borrowings through non-convertible debentures (NCDs) are due for repayment in FY27, limiting near-term refinancing risks.

The asset side may also provide some support. Loan yields had been gradually declining over the past year due to intense competition in housing finance and vehicle finance. With borrowing rates now hardening, Kotak expects this yield erosion to stop and competitive intensity to ease.

Lenders are increasingly shifting toward higher-yielding retail and unsecured loans. Firms such as Aditya Birla Capital, L&T Finance, and Tata Capital have been expanding their retail loan books, while personal loan portfolios continue to perform relatively well despite broader macroeconomic concerns, according to the report.

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After a strong March quarter, the market's focus is likely to shift toward whether lenders can protect margins as borrowing costs gradually move higher over the next few quarters.