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Monday, July 13, 2009

Time To Revisit Commercial Credit

First, here's the current release and graph:

Note the amazing collapse in nonfinancial (blue cliff). This always happens in recessions, but the trajectory in this one is amazingly steep. And notice when the cliff diving began - in 2009. As oil fell out and companies ramped back production, the need for credit decreased. The difference in 2001 was that asset backed did not collapse and the decline in credit was slow.

CIT Group is trying to claim that it is too big to fail:
A collapse would ripple across the “small and medium-sized businesses who rely on CIT to operate -- to pay their vendors, ship goods to their customers and make their payroll,” the New York-based lender said in internal documents obtained by Bloomberg News that make the case for its importance to the U.S. economy. CIT spokesman Curt Ritter declined to comment on the documents. CIT executives spoke with regulators during the past two days, according to a person familiar with the talks, after its bonds and shares tumbled on concern that the Federal Deposit Insurance Corp. won’t allow the lender into its bond-guarantee program created last year to unfreeze debt markets. CIT may default as soon as April, when a $2.1 billion credit line matures, according to Fitch Ratings.
Their theory is that if they collapse, their funding to businesses would not be replaced by other sources.

Out of fairness, you should read CIT Group's own press releases which are available here. The short history is that CIT Group, along with GS and other NBFI Wall Street ruffians, applied for bank holding company status during the crisis. So there is now an entity known as CIT Bank. One of the things CIT Group wants is for the FDIC to let it dump its bad debt into the bank. So far, FDIC has been mostly holding the line on CIT Group, although it did approve the CIT OnlineBank app, the primary purpose of which was to get hot money.

CIT is very active in retail and small business lending, but over the last year it has become less so, largely due to not having money. And every time you read an article like this, replete with examples of business owners bewailing the loss or threatened loss of their financing, you have to realize that one of the reasons CIT is in such trouble is because it was a "generous" lender. Its home loans and student loans went bad, and then just about everything else followed. Over a year ago, in June of 2008, Goldman Sachs stepped up to the plate with 3 billion in financing. I want to stress that GS is now saying that it has no material exposure to CIT Group.

CIT Group was kind of the king of the commercial paper markets over recent years, just a massive money mill. You're talking everything from lines of consumer financing for companies like Dell to student loans, manufacturing, etc. It was really cranking on the equipment leasing/financing for a while there.

This slide presentation (8-K exhibit 99.1 Sept 11, 2007) given at the Lehman conference is at least historically interesting, especially the claim that its performance would improve as the economy got weaker. At that time, its portfolio consisted of the following:

Click on this baby for a larger version. You can kind of tell what happened. After this CIT tried to do more with some transport deals, etc, and we all know how that sector is holding up.

As for being "too big to fail", I don't think it is. Smaller corporations will probably pick up the better credit prospects. One of the problems has been a dearth of good lending prospects, and there is quite a bit of money sitting out there in bank deposits.

I am sure that some commercial and retail credit will be yanked, but it is not clear to me that this is preventable. If the losses are there, they are there. We're past the plausible deniability border on a lot of businesses, and they will either be forced to contract enough to make a profit, or will go out of business. Those dying strip malls around the country have a lot to do with CIT Group's problems, but baby, they aren't coming back.

The reason for this post is that I have been claiming that the recession's intense phase was caused not by a credit contraction, but by high fuel prices, degenerating margins and defaulting credit. However, I do believe that access to credit could become more of a problem for the economy as we try to grow out of this slump. Small businesses, in my view, are not mostly currently in trouble due to no credit for ongoing business, but speculative credit for many small businesses (we'll be all right if you just lend us enough to get us through another six months) is going to be hard to find unless you can present contracts or have maintained bread and butter lines of business. The concern is that some businesses will have a hard time finding credit as banks are struggling to cover their losses on their loan portfolios.

This is why I foresee a double dip. I can model changes in the shape of the curve (as in my famous fried egg post which baffled everyone), but not that it must happen. This administration got its causation wrong, and has been treating the patient for the wrong disease. We have got to increase velocity, and the only way to do that is to launch a massive program of infrastructure investment, which was grossly neglected in the original stimulus bill. It is far more important to create private sector activity and jobs than to create government jobs, which was really what the stimulus bill was all about.

What you are looking at in that commercial credit graph at the top of this post is absolutely not a recovery. We can get a shorter pop, but the credit isn't in bank portfolios (see H.8) and it is not on the market. There is no recovery without credit expansion in businesses. This thing has just lasted too long and has exhausted reserves on a lot of businesses, and as unemployment continues to rise, default ratios and chargeoffs on just about all asset types are doomed to keep rising. It is quite insane to expect the household sector with its massive debt loads to prime the pump.

The moves to control compensation and otherwise meddle with banks have created a situation in which the Fed's efforts to infuse money into the banking system to prevent credit from becoming a drag on functional businesses was busted by the political posturing of Congress Critters.

If you look at commercial credit, we appear to be taking a nice ride in the Titanic.

I believe that most loans don't go bad, banks just decide it is not worth pursuing the debt.

If a loan that is considered "toxic" were revisited and the terms were made more favorable and the person agreed to pay down the debt, would not that be a pure profit source at this point in time?

If the borrower of a loan gone bad agreed to pay down their old debt if all fees and penalities were removed, and all interest charges after the third year and older were also removed, isn't that extra money that the banks don't presently have?

I suppose the banks have already sold off these bad loans, but maybe it's time to reacquire them and put people to work seeking out those that want to pay off a REASONABLE old debt.

There are probably millions upon millions of loans gone bad in which the consumer borrowed 3 grand, but now owes 6 grand because of all the garbage piled on top.

Why not settle for the 3 grand and help restore that person's credit rating?

Then in the future, just have tougher loan terms such as higher monthly minimum payments on NEW DEBT, (NOT OLD DEBT, as Chase Bank is doing), and limit how quickly one can go through their credit line.

Instead of cutting everybody's credit, the more measured, logical approach would have been to limit how much one could access from their credit line from one month to the next, and actually give people some latitude if they have spent years building up their equity.

That is a whole nother topic. How come people who spent the past 20 years building up their equity in their home, are treated like common criminals by the credit card companies and having their credit lines cut to what they actually owe?

I understand that credit card debt is unsecured, but if someone is an equity builder, I think the chances are higher they want to have and keep a good credit history.



"This is why I foresee a double dip."

I'd give it at least a 50% chance, if for no other reason than the consensus appears to be that the worst is over. While that may or may not be true short-term, the long-term just keeps looking worse and worse to me.

I turned bearish in 2004 because I thought we were trying to "borrow" a recovery. In order to maintain consistency, it would be hard to justify turning bullish now. We are making the borrowing we did in 2004 look like chump change.

They say that if the only tool you've got is a hammer, then everything starts looking like a nail. I suspect our only tool is a shovel though, based on the size of the long-term financial holes we keep digging.
GE & GS are waiting for this next meal to fall over in front of them.
Anecdotal evidence: Six months ago I was receiving up to three credit card offers a day in my mail. In the last month I have received exactly one. The banks are not looking to increase their borrowers.

My daughter has been trying to get a revolving credit line for her small business. No one's interested.

I have a friend who has a small service business that, in spite of the downturn, is still doing okay. But he feels he can't do any planning for the future because this administration is so anti-business. He can't see how things are going to get better with all the new taxes, new spending, and government control. So, he's hunkering down - no new hiring, no expansion plans, cutting expenses as much as possible. Multiply him by millions and you see contaction in bvusiness.

That is why your double dip prophecy will come true, MOM. IMO, our only hope is to get some fiscally conservative, pro-business Congress persons and Senators in 2010. If we can't do that.......we are so screwed.
At the end of the day, there still is almost a trillion dollars in consumer credit card debt. I don't trust either party to do the right thing and help this debt reduce, because both sides get their plays called by the banks.


Alessandro - On an NSA basis, G.19 reports 919.1 billion in May. However that is the total amount of the credit lines, not the debt.

How much debt there is we don't know.

Still, I see your point. I don't understand what many banks are doing either. With chargeoffs running over 8% however, we can all be sure that interest rates will stay high. Absolutely no one wants to be the lowest and get the bad debt effectively transferred to oneself.
Mark - I think the administration is trying to change too much, rather than concentrating on curbing the worst abuses and encouraging responsibility.

See Jimmy's remarks. I would say that is pretty typical.

The healthcare issue alone is probably making some smaller businesses extremely wary. You've got to run tight, you feel like your ability to control your own future is limited, and the only way to expand your control and your options is to cut debt and conserve cash.
It is far more important to create private sector activity and jobs than to create government jobs, which was really what the stimulus bill was all about.

We're at the point now that the government's spending any more money -- even to create private sector jobs -- will only further depress the unstimulated industries money velocity notwithstanding.

The best possible thing Obama could do now would be to announce that he will ask for a continuation of the Bush tax cuts (all of them,) quash any talk of taxing health care benefits, vow not to change corporate tax rates and "loopholes" and state that the time is wrong for cap-and-trade.

Now, that's about as likely as Al Gore's announcing tomorrow that he was wrong about Global Warming, but business activity would improve. More government "stimulus" without a change in government rhetoric would simply dump more money down the now-famous money hole." Mr. Obama himself is making this recession worse than it would have been by his obvious hostility toward the private sector.
hello... hapi blogging... have a nice day! just visiting here....
having spent 25 plus years in small manufacturing business, I find it amazing that anybody is left standing! Margins, have been low to negative for years. Small business owners have been living off cash flow and consoldidation for so long most thought that was how business operated. The credit expansion is over and anyone that that has been surviving on thin or no margins, rolling over debt and hoping for a consolditored to make them whole will be out of business during this cycle.
hey! Just speaking for myself, I really liked the fried egg post. I may have had to read the explanation three times to understand it, but that's me and my deficiencies.

MORE FRIED EGGS! It's a very cool modeling program.
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