The Effect of the Election on Community Banking

 

rp-1Well, the election is over. And the United States is about to have a new President.

A lot of time, energy and horsepower is being spent on what will or will not happen to the financial markets now that the election is over.

It does seem that it may make more sense to talk about what will not change, in the short term for consumers and financial institutions, especially smaller banks.
 

What Happens To Interest Rates?

First and foremost, the market environment which has been characterized by low interest rates, will not change dramatically in the short term.  Yes, interest rates will begin to increase, but as the Federal Reserve Bank of New York chief commented in a recent talk, “a quarter point either way is not a big deal.”
 
The new President’s comments regarding the Fed’s low rate policies have stoked speculation that his election may impact the policies of the Federal Reserve.  Even if the President were to appoints a new Fed chair or new governors, very little would be expected to change.
 
While the Fed can change benchmarks like the interest paid on bank reserves and the target rate for Fed funds, market interest rates are likely to remain relatively stable due to the huge amount of foreign capital enter the US market, keeping bond rates low.  While the demand for domestic credit is increasing, this capital continues to put pressure on bonds and interest rates.

 

The Staggering Cost Of Regulations … 

Despite the statements by the President elect that he will roll back regulations in many areas of the economy, the politics of reform are very different from those in the past.  The impact of Dodd Frank on banks has been staggering to the US economy. 

Legal and regulatory expenses are among the biggest burdens on banks and economic growth. “The roughly $275 billion in legal costs for banks since 2008 translates into more than $5 trillion in reduced lending capacity to the real economy.” Said Minouche Shafik, deputy governor of the Bank of England, at a conference in New York.

Not only will loan demand continue pressure on banks but it is possible that the political agenda of regulators offers the possible effect of further contracting credit for businesses and consumers.

 

1/3rd Excluded From Market … 

Thanks to Dodd Frank, roughly one third of Americans have been excluded from the markets for home mortgages due to new regulations imposed on the loan origination process.  

Dodd Frank, for example outlaw’s prepayment penalties on home mortgages, making loans to subprime borrowers uneconomical.  And rising operational and compliance costs are more difficult due to the Consumer Financial Protection Bureau.

So, what will happen to Dodd Frank and the Consumer Financial Protection Bureau (CFPB) under a Trump presidency?   Obviously, the market believes there will be some changes as the KBW-Nasdaq which tracks a basket of bank stocks, rose to its highest level in more than a year. But most money managers suggest that an outright repeal of Dodd Frank is unlikely.

 

A More Likely Approach … 

While Republicans control the House and Senate, Democrats hold enough seats in the upper chamber to block attempts to kill Dodd Frank.  A more likely effort will be changes to the CFPB with a new director being appointed.

But even there, there is risk for the administration.  While not loved by the financial services industry or congressional Republications, the CFPB has made a name for itself with the public by going after unpopular targets such as Wells Fargo.

“The CFPB is very popular with the public.” Stated Ed Mierzwinski of the US Public Interest Research Group.  

Attempting to weaken the CFPB could be problematic for a new President with other priorities.  And although expressing interest in loosening financial regulations, the President elect has not talked about the CFPB, payday lending rules or other specific issues.

 

Trench Warfare Is Unlikely … 

Instead of financial regulation, Dennis Kelleher, chief executive of Better Markets, expects Trump to focus on other priorities.

“This big infrastructure plan and probably tax relief are the two big pillars of his domestic policy.”

“He’s not going to want to get bogged down in trench warfare over Dodd Frank.”

 

 

Revitalization Partners is a Northwest business advisory and restructuring management firm with a demonstrated track record of achieving the best possible outcomes for our clients.  We specialize in improving the operational and financial results of companies and providing hands-on expertise in virtually every circumstance, with a focus on small and mid-market organizations.  Whether your requirement is Interim Management, a Business Assessment, Revitalization and Reengineering or Receivership/Bankruptcy Support, we focus on giving you the best resolution in the fastest time with the highest possible return.

The Bigger Big Short

 

bigger-big-short-2Over the last several articles, Revitalization Partners has written several articles related to the movement of Payday Loan financing to the business market.

In talking with a number of potential clients who have approached RP for assistance, we have discovered that prior to talking with us, they have, very much as in the consumer payday loan segment, financed and refinanced these loans, increasing the loan amounts each time until even these subprime lenders are ready to stop lending and foreclose on these loans.

 

OBTAINING THESE LOANS IS EASY …

interest-ratesBecause obtaining these loans have been so easy to get, it isn’t until the very end that these borrowers begin to ask for help; and then it’s too late.

For those of you that watch John Oliver’s show on HBO, there is becoming a bigger problem in the consumer industry.   As outlined on Oliver’s show, the used car dealers have developed a subprime business that has become “buy here, pay here.   These dealers, with no real credit approval criteria, basically arrange for anyone to get a car loan.   And when all of the fees and interest rates are calculated, real interest rates approach 15 to 41%.

 

“RENTING” … NOT SELLING…

Oliver’s show recently explored how short lived these solutions are and whether they are beginning the makings of a sequel to The Big Short.   And, as the show points out, these dealer/lender hybrids get people into cars at about the same rate that they repossess those same cars from said people at the rate that these subprime lenders reclaim cars for nonpayment, they’re essentially renting these cars, not selling them.     
bubble-popping_0

The sky-high rates and fees along with the inflated payments are impossible for most borrows to keep up with, which is how one Kia model; ended up changing ownership eight times in just two years; as prices about twice the blue book value.

 

Many people are defaulting on these loans which is an exciting development for those in the subprime debt buying business.   But it does raise the specter of the subprime mortgage crisis that led to billion-dollar bank bailouts.  But even if the bubble does burst, the subprime auto loan bubble isn’t likely to have the same effect on the economy.

 

SUBPRIME LENDING …

16446010 - abstract word cloud for subprime lending with related tags and termsWhat do auto loans have to do with the business loans we have been writing about?  The real issue is subprime lending.   As the Consumer Protection Committee clamped down on Payday Loans, these subprime lenders moved their markets.   And their new borrowers range from business owners to subprime auto borrowers.

 
On the business side, a small company in Missouri borrows hundreds of millions of dollars from one of the biggest names in Wall Street finance. The debt is rated subprime and the loans carry few, if any, of the standard protections seen in ordinary debt, making them particularly risky.  And yet, investors clamor to buy pieces of the loans which pay annual interest of at least 8.75% to the investors.  Demand is so strong that some buyers have to settle for less than they wanted.

 

BELLES OF THE BALL THIS YEAR …

belle-of-the-ballCompanies like this are the belles of the ball this year.  Wall Street and private equity firms, hedge funds, and other less transparent sources of capital are frustrated by low returns on other forms of debt and are turning to riskier, but higher returns from smaller companies. So, weaker credit is traveling down to smaller companies that would not ordinarily have this kind of leverage.

 
This subprime lending boom underscores a major change in financing practices since 2008.  Banks which have become increasing regulated have ceded much of their post-crisis to private equity and investment funds which slice up the loans and pool them for sale to other investors. These shadow lenders make up as much of 60% of new small company loans.

 

NOT RELATIONSHIP BASED …

As these loans are not at all relationship based, any potential default or delay in making payments is likely to have an impact on the loan. It is important to both understand the impact of acquiring the loan and the impact any issue with serving the loan. Yes, the interest rate is high, but before signing you name on the loan document, consider losing your business, and all of your personal assets as well.  If the loan won’t wait a day or two for reasonable vetting from your advisor, it’s probably a loan that the lender expects to go bad.  Or maybe you just get a thrill of starting over.

 
Revitalization Partners is a Northwest business advisory and restructuring management firm with a demonstrated track record of achieving the best possible outcomes for our clients. We specialize in improving the operational and financial results of companies and providing hands-on expertise in virtually every circumstance, with a focus on small and mid-market organizations. Whether your requirement is Interim Management,  a Business Assessment, Revitalization and Reengineering or Receivership/Bankruptcy Support, we focus on giving you the best resolution in the fastest time with the highest possible return.