Lending for initial public offers has caught on the fancy of banks and non-banking finance companies.

With a raft of issues in the pipeline or already in the market (UCO Bank, Indian Overseas Bank), financial intermediaries are fiercely undercutting each other to grab a chunk of business.

With the stock market on a roll, banks' loan against share portfolio is also getting larger.

The interest rates have gone down sharply by around 6-7 per cent. The effective interest rate for IPO financing, which was above 21 per cent around two years ago, has now fallen to around 13 to 15 per cent, depending on the quality of issue.

Private sector banks and foreign banks are the major players in the market along with the NBFCs. However, some of the public sector banks have also entered the arena.

Banks financing of IPOs is a part of the overall capital market exposure which is limited to 5 per cent of the advances of the previous year.

The maximum amount that can be granted for IPO finance is Rs 10 lakh (Rs 1 million). There is also a margin of 40 per cent that is applied on all advances including financing of IPOs.

NBFCs are raking in the moolah as there is no cap on lending and also on the margin requirements. They are becoming very aggressive and reducing the margin requirements to as low as 20 per cent.

The NBFCs generally tie-up with banks to keep a check on the whole process of refund and allotment.

An NBFC of a large corporate claims to have financed Rs 600 crore (Rs  6billion) in the Maruti IPO. It is also looking aggressively at the UCO Bank and IOB issues too.

UTI Bank is looking at financing Rs 15-20 crore (Rs 150-200 million) each in both the UCO Bank and IOB IPOs.

"It is a good opportunity to deploy short term money as the position gets liquidated in a month. The interest rate on this loan is better than the repo rate which is 4.5 per cent," said UTI Bank's president (merchant banking) M M Agarwal.

The bank's total capital market exposure is at around Rs 225 crore (Rs 2.25 billion). It can go up to around Rs 350 crore (Rs 3.50 billion) to reach the 5 per cent cap.

IDBI Bank, which had financed Rs 26 crore (Rs 260 million) in the Maruti IPO, is actively looking at this market.

HDFC Bank is possibly the most aggressive player in this market. The bank is looking at only limited financing of around Rs 15-20 crore in each of the IPOs as it does not have much of a headroom left. The banks' capital market exposure is at around 4.75 per cent.

There are, however, players who do not find the IPO financing market very attractive. StanChart has stopped IPO financing.

"There is very little money left in the business and too much of hassle. The lending period is very short and there is no stability in the book. It also competes with our core portfolio in this business loans against securities," says Standard Chartered Bank's general manager and head of wealth management Vikram Issar.

Bankers view this as one of the safest products. There is a lien on the depository account and both the shares and the refund comes directly to the bank.

The interest rate for the issue would depend on how much premium is expected when the share are listed and also on the quantum of allotment.