Takeaway: Credit tightening completed the trifecta in 3Q with consumer auto loans joining the multi-quarter tightening in C&I and CRE.

In a financialized, developed market economy where there is ~16.8X more obligations to pay dollars than there are actual dollars, credit matters. 

Domestically, credit is generally both pro-cyclical and causal, both virtuous and vicious.  Just as it can serve to jumpstart or amplify a virtuous cycle on the upside, it can similarly serve to catalyze a negative self-reinforcing downcycle.

Conceptually, in the contractionary phase, the negative self-reinforcement proceeds as follows:

banks tighten credit => consumption/investment decline => hiring slows/workers are laid off => delinquencies rise => banks further tighten credit => and so on.

Consumer Completes the Trifecta: The 3Q16 Senior Loan Officer Survey released yesterday showed the first signs of emergent pressure on consumer credit as tightening in consumer auto loans joined the multi-quarter tightening in C&I and CRE lending.

The Data:

  • C&I:  9% of banks tightened C&I standards for large and medium firms, marking a 4th consecutive quarter of tightening.  Whether the modest uptick in loan demand can serve as an offset (and/or prove durable with oil down >20% again off its June peak) is an open question.
  • CRE:  Commercial real estate lending saw continued and more aggressive tightening this quarter across all three categories (Construction and Development, Nonfarm Residential and Multifamily).  While the survey format changed in 2013, 3Q16 represents the highest level of tightening in its 12 quarter history
  • Auto Loans:  With concerns rising over auto loans, especially in the subprime space, banks have begun to tighten standards for the first time since the Senior Loan Officer Survey introduced this category.  Although the introduction of the auto loan category post-dates the GFC, the implications of consumer credit tightening are fairly straightforward vis-à-vis the capacity for Main Street credit and consumption. On net, 8.1% of banks reported tightening standards for Auto loans

Recessionary Harbinger?  As our Financials team has highlighted, historically, a broad and sustained tightening of credit has been a harbinger of recession.  As can be seen in the C&I and CRE Survey Charts below the prevailing trend has clearly been one of tighter credit and declining/less-good demand. 

Concentrated tightening in the commercial sector suggests nonresidential fixed investment will remain underwhelming and a headwind to headline growth, at the least, and will serve as an incremental headwind to the ongoing recession in core capex spending – where order growth has been negative in 17 of the last 18-months.  We continue to expect declining corporate profitability and spending to carry negative flow through to consumer credit trends on a lag.  

 

The Credit Cycle = Past Peak | In short, the Senior Loan Officer data continues to suggest the current credit cycle is now past peak – still “okay’’ on an absolute basis but trending towards less good as the negative trend in credit availability has both confirmed (C&I, CRE) and metastasized (Consumer Auto) in 3Q. 

Timing the pace and duration of the deterioration is challenging but, historically, the credit cycles has played itself out fully in autocorrelated fashion in both directions once inflecting.  

Tightening Trifecta | 3Q16 Senior Loan Officer Survey - SLOS Auto

Tightening Trifecta | 3Q16 Senior Loan Officer Survey - CRE

Tightening Trifecta | 3Q16 Senior Loan Officer Survey - C I Spreads

Tightening Trifecta | 3Q16 Senior Loan Officer Survey - CRE Demand

Tightening Trifecta | 3Q16 Senior Loan Officer Survey -  CreditCycle Senior Loan Officer Survey 1Q16 Slide 34

Tightening Trifecta | 3Q16 Senior Loan Officer Survey -  CreditCycle Delinquencies 1Q16 Slide 35

Tightening Trifecta | 3Q16 Senior Loan Officer Survey - SLOS Credit Standards Rarely Easier Slide 40

Christian B. Drake

@HedgeyeUSA