SFNet’s Q2 2021 ABL Index results have been published. You can find the report here.  

Economic Context

The economic recovery from the painful COVID recession of 2020 remains firmly on track and the secured lending industry continues to find its “new normal.” Massive government stimulus payments to households, large-scale government lending programs for business (including the PPP program), and arguably the easiest Federal Reserve monetary policy in history (with zero interest rates and $120 billion a month of Fed bond purchases) have sharply boosted consumer spending, investment spending, and housing—to the point of generating new inflation risks. Both GDP growth and inflation are poised to post their highest numbers in decades in 2021. The cumulative effect of these government policies lifted economic growth much faster in the U.S. than in almost all other countries around the world. However, with so many American households and businesses flush with cash, business credit demand has been modest to date. The secured lending industry reflects these broad economic trends and the new second quarter 2021 SFNet secured lending survey suggests the industry continues to largely move sideways.

Lender Sentiment

Given this background of reviving economic growth with plenty of cash in circulation, secured lenders expect business conditions to remain solid with modestly firming expectations for credit utilization and expectations that portfolio performance will remain healthy. A bit of rotation is starting to appear in the SFNet data between bank and non-bank lenders. Banks generally are expecting creeping secured lending growth, while non-banks appear more optimistic about overall conditions. For example, non-banks are expecting stronger demand for new business and are planning to boost their hiring more than banks.

A Looming Challenge

A looming challenge for lenders is the highly negative real interest rates currently in place. With the yield on the 10-year U.S. government bond at 1.3% and CPI inflation running at 5.4%, real interest rates today are about negative 4%--the most negative real interest rates in a couple of generations. In the short run, this is attractive for lenders as it means incredibly low cost of funds. But negative real interest rates can become a double-edged sword. Super easy credit conditions are already starting to boost M&A activity, which may provide a new focus on bank lenders. This in turn may open new opportunities for non-bank lenders. However, continued rapid growth in the economy and rising inflation may cause the Fed to accelerate the pace of its tapering of bond purchases and boost the cost of funds faster than generally expected.

Commitments and Outstandings

For banks, commitments and outstanding are up modestly in the second quarter of 2021 from the first quarter, with a 2.0% increase in total commitments and a 5.3% increase in outstandings, although total outstandings remain sharply below pre-pandemic levels.  Over the latest quarter 60% of banks reported increases in their new commitments, while 40% reported decreases. For non-banks, commitments and outstandings were up more significantly, with commitments up 6.8% and outstandings up 10.0% in the latest quarter. Both measures were up sharply compared with year-earlier levels. Among non-banks, 72.7% reported an increase in new commitments in the past quarter while only 27.3% reported decreases. The vast majority of loan commitments were for revolver arrangements, with term loans representing just 1.8% of commitments for banks in the second quarter.

Credit-Line Utilization

Meanwhile, credit-line utilization rates have been stable to up slightly — consistent with an economy where many businesses have plenty of cash. Banks reported a 33.3% utilization rate of their credit lines in the second quarter of 2021, up a tick from the 32.0% rate in the prior quarter, but down sharply from rates in the mid-40s in pre-pandemic 2019. Non-banks reported a utilization rate of 45.4% in the second quarter—down notably from rates in the mid-50s in 2019. Clearly, borrowers still have not returned to normal credit demand conditions that would be typical in a rapidly growing economy.

Portfolio Performance

The combination of super low interest rates, strong overall economic growth, and healthy cash positions for many businesses mean that secured lenders are reporting clean portfolios, as special mention loans, non-accruing loans, and write offs all remain low in absolute terms. Just 10% of bank lenders reported an increase in gross write-offs in the second quarter of 2021, with 80% reporting no change in write offs and 10% reporting an increase in write offs.