Let's Talk Loans - Vol. 105

Welcome back to another edition of Let's Talk Loans . The purpose of the newsletter is to talk about trends and themes in the loan market. If you're a depository (bank or credit union), REIT, insurance company, private credit, investor, originator, CEO, CFO, CCO, CLO or somehow tied to lending - I hope this gives some thoughtful insight to you. Please share with your peers and I welcome any feedback! You voted on the new banner and it was a close call between #1 and #3. I might switch back and forth between the two - let me know your thoughts.

Blessedly, conference and travel season is over. Other than some family vacation for the holidays, I'm back and in my seat. You should see more regular posts coming from me. A lot has happened in these last several weeks. An election. A rate cut. A bit of a market move. Q3 call report data. Let's tackle a few things.

Rates first. I'm increasingly worried that my call at the start of 2024 that rates would be "directionally down" might not come true. More on that in a moment. Nick Timiraos warns us that the pace of rate cuts might come slower. Translation, rates might be higher for longer.

“The economy is not sending any signals that we need to be in a hurry to lower rates.”

"Powell said officials could consider slowing down the pace of decreases as they get closer to estimates of a neutral level. “Going slower, if the data tell us to go a little slower, seems like the smart thing to do,” he said."

We started 2024 with a 2 year at 4.32%. As of close of business Friday, we were at? 4.30%. Down 2bps. On the 10 year? We were at 3.92% and as of Friday we are at 4.44%. Up nearly 50bps. The good news is we are not inverted anymore but the bad news is the 10 year is on a tear.

Along the line of rates. Let's take a look at the NY Fed's Consumer Debt Q3 results and grab a few thoughts on originations and credit.

"Balances now stand at $17.94 trillion and have increased by $3.8 trillion since the end of 2019, just before the pandemic recession."

Mortgages are up $75bn (on balance) and there was a slight increase in originations with $448bn in Q3. HELOCs increased by $9bn (on balance), their 10th consecutive quarterly increase. Autos rose by $18bn (on balance). Total outstanding auto debt is at $1.64tn, which is just a hair above student lending debt ($1.61tn), and I'm not sure that's a good thing. A reminder, student lending DQs now count against FICO scores as the moratorium has expired. Cards grew $24bn (on balance) and are 8.1% higher than last year.

Moving over from consumer debt and looking at CRE lending. A article from the Financial Times speaking to the growing number of "re-defaults." CRE lending has received plenty of attention these last two years. The good news is extend and pretend has largely worked . The challenge for CRE is that the longer rates are higher, the more exposed the sector is to a shock while it is relatively weak. DQs are on the rise, mods are on the rise, particularly on the non owner occupied side of the ledger. What's the history here?

"At the end of September, the value of commercial real estate “re-defaults” was up 90 per cent in the past year through September, to $5.5bn, an increase of $1bn in the past quarter alone, according to data released earlier this week by the banks and compiled by industry tracker BankRegData."

"That is the highest level since 2014 of modified, non-performing commercial real estate loans, in which a borrower was under stress, received relief — either a forgiven payment, lower mortgage rate or some other modification — and is once again delinquent."

Looking deeper into BankRegData.com and Q3 numbers, we can see a few trends. Where was there loan growth in Q3? This is specific to banks, more on credit unions in a moment.

• You've seen me write and speak a lot about the 2nd lien growth. In the face of rising mortgage rates, loan locked borrowers, trapped equity - all of this points to a growing and vibrant HELOC and closed end second market. This continues to have legs and I expect to see further growth in these loan products. We also saw this in the above NY Fed numbers.
• I expect residential lending (1-4 family 1st lien) to be flat for several quarters. I've used this quote a few times but it continues to haunt me. Until we get more supply or rates fall significantly - I just don't see resi showing significant growth.

“According to Fannie Mae calculations, it would take one of three things, or a combination of them, for affordability to return to 2016-2019 levels: The median price of a single-family home would need to fall 38% to $257,000 from September’s $414,340; median household income would have to rise more than 60% to $134,500; or the mortgage rate would need to fall to 2.35% from roughly 6.5%.”

• Credit cards continue to befuddle me. The big 6 have grown this book for several quarters. As a credit segment, this is the part that has me most concerned. There is good, healthy credit card growth that is born on the back of investment in business. Then there is bad, keeping up with the Jones' growth in credit cards. I feel we are in a period of the latter.
• Auto loans also need to see rates fall. For the first time in about 2 years I've been encouraging clients to lower their auto loan rates. Affordability and payments are a struggle for consumers in this rate environment.
• Construction lending is another line item that doesn't surprise me. Inflation, rising rates, CRE DQs going up, lingering supply chain issues - all of this points to a measure of pain in this corner of the world.

Diving deeper to the CRE discussion again, and highlighting what the Financial Times mentioned - there are clear signs of distress forming in the non-owner occupied segment of bank lending. It's a bend not break story but the longer rates are higher we set ourselves up for more risk of a shock.

Looking at the historical data here. Owner occupied pre COVID was the loan that typically carried a higher DQ rate. Since COVID, that trend has reversed. Non owner occupied are twice as high as their owner occupied brethren.

Moving over to credit unions . It was a relatively good quarter. Total assets up, total loans up and total shares up. However, growth has slowed for the overall industry. ?

"Total assets increased just 0.6% from June 30 to Sept. 30, which was the fourth-weakest growth rate in the last 40 quarters. In the second quarter, the industry recorded the first linked-quarter asset-decline in a decade. Bank acquisitions could be a catalyst for accelerated growth."

"Vehicle lending previously was one of the industry's growth engines, but that sector has stalled out in the last year. Used vehicle loans, comprising 19.6% of total loans and leases, have gone down for three of the last four quarters, including a 0.5% drop in the third quarter. New vehicle loan balances, which account for 10.2% of the lending aggregate, were down 1.6% in the third quarter and have declined for four consecutive quarters."

"Credit unions are increasingly relying on the one-to-four-family segment for growth. First-lien one-to-four-family loans were up $4.40 billion in the third quarter and have grown $46.40 billion during the last two years. The junior-lien space is on an even higher growth trajectory, with balances up $6.96 billion, or 4.9%, in the third quarter and $51.61 billion, or 52.5%, since Sept. 30, 2022."

"Member business loans represent another lending bright spot. The segment grew 2.4% in the third quarter and 25.5% in the last two years."

A look over at their performance.

"Nonperforming assets (NPAs) as a percentage of total assets for the industry jumped to 0.68% as of Sept. 30, up from 0.62% at June 30 and representing the highest level since the end of 2013. Despite the recent surge, the NPA ratio is just half of the 15-year peak at year-end 2009."

"On the plus side, the industry's early-stage delinquency ratio was down 1 basis point from June 30 and 24 bps from the end of 2023."

I've made the speaking rounds of late. If you're looking for a podcast or something to listen to - please give these a shot.

• Upgrades new "Consumer Lending Perspectives."

• Michael Kelleher , Michael Zau and I collaborated on LinkedIn Live and their MikedUp podcast .

On a personal note, it's been a tough month. We lost Derek Clenin, CPA on October 8th to #leukemia. IF YOU WANT TO HELP THE FAMILY - please follow this POST if you want to help support his wife and three young boys. As a manager and desk head, this is the first time I've had to deal with the loss of a direct team member and friend. Derek sat 5 feet from me day in and day out for years. His loss is acutely felt by all of us. To close out this edition, one of his last messages to me before his passing. Words to live by.

"Morning! Each day's effort doesn't get the job done in and of itself. But they stack up over time. It is through the consistency of the hammering that the championship stones are cut. Go win today!". Derek Clenin

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