Among the wide-ranging topics Van has addressed over the past month are what rising credit card delinquencies signal, the anatomy of a soft landing, and the significance of nonbanks’ growing share of lending.

12 Things in Credit

Hello, market participants! We started our weekly podcast, Van Hesser’s 3 Things in Credit, back in January 2021 to highlight, you guessed it, three things relevant to credit markets that we think you should know about. Each month, we intend to compile transcripts from our podcasts into one published document, so you can catch up on what you might have missed. In any event, look for our weekly Friday podcast and make sure you let us know what you think. And make sure you check out all KBRA research, podcasts, and announcements for upcoming webinars on KBRA.com. All you have to do is register.

Over the past month, we addressed the following:

1. Credit card delinquencies. It’s all over the press. We’ll tell you whether or not to be worried.
2. Updated SLOOS. How are bankers thinking about lending in this environment?
3. Barkin wisdom. The head of the Richmond Fed challenges Fedspeak.
4. New York Community Bank. An evolving story—here’s what it means to the broader macro story.
5. Nonbanks. They continue to take share from banks. That’s a good thing.
6. IMF’s latest global economic outlook. It’s actually tilting toward bullish.
7. That GDP report. Everyone—literally everyone—missed this. Here are our takeaways.
8. Narrowness. Beware of the aggregate statistic.
9. Earnings warnings. Underneath market euphoria is some sobering guidance.
10.  Anatomy of a soft landing. We’ll walk you through our building blocks.
11. Big bank color. Our latest update on how the largest lenders are seeing credit.
12. Private credit maturity wall. Here’s the data.

Alright, let’s dig a bit deeper.

February 9

This week, our 3 Things are:

1. Credit card delinquencies. It’s all over the press. We’ll tell you whether or not to be worried.
2. Updated SLOOS. How are bankers thinking about lending in this environment?
3. Barkin wisdom. The head of the Richmond Fed challenges Fedspeak.

Alright, let’s dig a bit deeper.

Credit card delinquencies.

There’s been a lot of attention paid lately to credit card activity—how credit card loans in the U.S. have hit an all-time high, and how delinquencies have bounced. A quick Google search shows these headlines: “Americans’ credit card […] delinquencies spiked in 2023.” Or this one: “Credit card delinquencies surged in 2023, indicating ‘financial stress,’ New

York Fed says.”

The possible implications of what’s going on in the credit card world are significant, directly affecting investor sentiment to concentrated lenders such as Capital One or Discover or Synchrony, to consumer asset-backed securities (ABS), and, more broadly, to the almighty U.S. consumer’s ability to continue driving economic growth. Is this a canary in the coal mine?

For insight, I naturally look to Rich Fairbank, CEO for 30 years of Capital One, the fourth-largest card lender. Mr. Fairbank warned early on in the pandemic of two distortions happening in the consumer lending business: (i) that consumer credit scores would be unsustainably high due to stimulus benefits, and (ii) that consumer loan losses would be delayed (i.e., pushed out) because of those same stimulus benefits. He also has warned of second-order effects during the pandemic of fintechs flooding the market, especially subprime, with credit offers, making every lender’s book worse. And he also warned about excesses taking place in the auto lending market. Check, check, check, check. Pretty good insight. So, what does he make of all of this?

He’s bullish. When asked about Cap One’s competitive response to the current market, he says, “We are leaning in; we’re definitely leaning in.” This is despite Cap One seeing net loan losses in Q4 rise 213 basis points (bps) year-over-year, and despite seeing 30+ day delinquencies still on the rise sequentially. He confidently says bad debt “normalization has run its course and credit results have stabilized.” He expects the company’s loan loss rate to settle in at 15% above 2019 levels.

He marvels at that strength of the U.S. consumer—how “strikingly resilient” the labor market has been, the consumer’s relatively low debt burden, how real wages are growing again, and how home values have held up. From our perspective, that Q4 earnings call was a sure-footed exercise. Other market participants agreed. The stock jumped 5% after the call, which is not the usual “buy the rumor, sell the news” outcome.

Alright, on to our second Thing—The SLOOS is back.

Did the Fed’s quarterly Senior Loan Officer Opinion Survey (SLOOS) have its 15 minutes of fame? Recall, in the wake of the bank failures last March, investors waited with bated breath for the next SLOOS to see just how much banks tightened their lending standards as managing deposits (and deposit outflows) became paramount. It was not lost on investors that banks tightening credit dramatically on top of the fastest rate-hiking cycle in 40 years could easily tip the economy into recession.

The good news is that banks no longer account for the majority of lending (as we discussed in our previous episode), and markets have remained open and active. But, on the margin, and at the risk of stating the blindingly obvious, the economy performs better when credit flows.

So, what does the latest SLOOS tell us? It tells us that banks in the aggregate are still tightening credit underwriting standards, but not as aggressively as had been the case in 2023.

Starting with commercial & industrial (C&I) loans, the vast majority of banks (more than 80%) have not changed their underwriting standards in Q4, although those that did tightened. Not surprisingly, commercial real estate (CRE) lending saw more pronounced tightening. On the consumer side of the ledger, banks are being a bit more cautious across products, but are well off of a shock reaction, the kind you would see if there was mounting evidence of an imminent recession.

The survey’s so-called “special questions” asked about expectations for 2024 for changes in lending standards, borrower demand, and loan performance. The most noteworthy expectation is among large banks and their credit card lending. In 2024, 40% of the 20 banks surveyed in the “large bank” category (that makes up most of the card market) expect to tighten the card lending box. None of them expect to loosen. As for auto lending, where there was increasing concern a couple of years ago, that market seems to have cooled, and 85% of banks expect to leave underwriting unchanged in 2024.

Interestingly, bankers expect demand for virtually all loan categories, commercial and consumer, to rise in 2024, consistent with the soft-landing narrative and improved visibility that goes with it.

And as far as the quality of the bank’s current loan book, respondents believe that while C&I loans to non-leveraged large and midsized firms will hold up at high levels, there is more concern about deterioration, as you would expect, in leveraged and small-sized commercial borrowers, as well as in CRE portfolios. Banks are also expecting consumer loan portfolios (credit cards, auto loans, and mortgages) to deteriorate somewhat in 2024.

All in all, the latest SLOOS is a step in the right direction toward banks becoming part of the solution economically rather than part of the problem.

Alright, on to our third Thing—The Fifth District wisdom of Tom Barkin.

While prepping for a morning meeting, I had Bloomberg TV on in the background, which had just started an interview with Tom Barkin, president of the Fed’s Fifth District in Richmond, Virginia. A few tidbits got my attention, and I soon became much more engaged. A peek into his background helped to explain why. Thirty years at McKinsey, including stints as that firm’s CFO and chief risk officer. He does not hold a PhD in economics. A practitioner, as the academics say. I’m all ears.

Barkin acknowledged the data lately has been “remarkable” on economic growth, jobs, and disinflation. But he added that you have to take data with a grain of salt. He pointed to the latest jobs report where job growth was actually negative until seasonal adjustments took it up to the off-the-chart print of 353,000. Alright, a reason to curb my enthusiasm.

Next up, a discussion on the “neutral rate” and the debate raging now around this imaginary number. Mr. Barkin weighed in by pointing out that the standard deviation around the estimate is 200 bps, meaning the 2.5% figure in the latest Summary of Economic Projections could actually be anywhere from 0.5% to 4.5%. So, Mr. Barkin said policy decisions should be made not based on trying to hit some theoretical neutral, but rather based on what is being seen in the economy. Sounds logical, but it’s easy to see how scholars get tied up in their models.

Alternatively, Mr. Barkin seeks out trends in actual activity happening across his district. For example, he noted in a recent speech at the Economic Club of New York that the tone in his district has “shifted decisively away from talking about a recession,” except in “interest-sensitive sectors like banking and real estate.” And as far as the latter is concerned, he noted that much of CRE is in good shape; concern should be centered on downtown, B- and C-quality office properties, rather than on tarring the entire sector by the same brush. That’s a prudent perspective.

I also like the fact that he is aware of confirmation bias around data—you know, you highlight data that fits your story as opposed to having an open mind to whatever data comes across the tape. He is quite candid about recognizing that

the economy has proven to be more resilient than he thought would be the case. In his words: “The extraordinary levels of post-pandemic spending have been normalizing. The painful post-COVID-19 supply chain shortages have been largely resolved. The rebound in prime-age labor force participation and immigration have helped alleviate labor market pressures. And most measures of inflation expectations have stayed impressively stable, suggesting that businesses and consumers have found the Fed and our inflation target credible.”

He adds, however, two reasons for caution. One, there is no certainty about where the economy is headed. Monetary policy lags, credit tightening, narrowness of job gains, and possible reacceleration of inflation suggest going slow in terms of possible rate cuts. And two, we are not yet sure of what changes to the economy have occurred because of the pandemic. We do know that changes to labor participation, the housing market, and globalization (and we would add technology) are evident.

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According to Mr. Barkin, we would be wise to take it slow from the policy standpoint.

February 2

This week, our 3 Things are:

1. New York Community Bank. An evolving story—here’s what it means to the broader macro story.
2. They continue to take share from banks. That’s a good thing.
3. IMF’s latest global economic outlook. It’s actually tilting toward bullish.

Alright, let’s dig a bit deeper.

New York Community Bank.

I’ll bet you’ve never spent much time thinking about New York Community Bank (NYCB). But when you see an outsized move in the 2-Year being attributed to developments at NYCB, it’s time to understand what’s happening there.

The bank stunned markets when it announced “actions to strengthen risk management” that caused it to do what banks never want to do: cut its dividend—in this case, by 65%. The stock has fallen by as much as 47%.

So, who is NYCB?

NYCB is a larger U.S. bank, with $116 billion in assets and $11 billion of equity. Its roots are that of a thrift, and it is in the process of evolving into a more diversified commercial bank. Its asset mix is unusual relative to more traditional commercial banks, most notably in its multifamily concentration, which makes up 44% of its total loans. The majority of its multifamily portfolio is in New York City, non-luxury, rent-regulated buildings. Commercial mortgages make up another 12%, and construction another 3.4%. It is also a large residential mortgage originator and servicer. It is predominantly a New York City metro area bank that expanded into the Upper Midwest via acquisition. It is noteworthy in that it won the auction to acquire certain deposits, cash, and loans from the failed Signature Bank from the FDIC in 2023. It’s safe to say that no other large bank looks like this.

“Strengthening risk management” is a qualitative statement that will be judged over time. What management did do was undergo, by its own description, two things: (i) a “deep dive” into the risk in its multifamily and office loan portfolios; and (ii) boosted liquidity. On the first point, it added $552 million in Q4 to the loan loss reserve (compared to $62 million in the previous quarter), partly to cover two big loan losses (one office and one multifamily) that accounted for the bulk of $185 million in loan losses in the quarter.

Here are the important takeaways from a macro standpoint:

• NYCB is an unusual bank, with a comparatively narrow focus (by product and geography) and a need to square up its balance sheet (which has doubled since 2021) with larger banks. Read-across to other institutions is highly limited.
• We are relatively early on in the timeline for recognizing commercial real estate loan losses. This is likely to drag out over years.
• Banks have over-earned over the past couple of years because of unusually low loan losses. Normal means profitability will be modestly lower (10%-20%) as a result, although that headwind can be offset to some degree by margin expansion that figures to present in the back half of the year.

Alright, on to our second Thing—Growth in nonbanks.

I recently attended community banking’s biggest conference, Acquire of Be Acquired, which is run by Bank Director magazine. There I had the pleasure of sitting in a banking industry overview given by the CEO of Keefe, Bruyette & Woods, Tom Michaud.

One of the challenges facing the banking industry is the competitive threat from nonbanks, which, of course, have grown rapidly ever since the banking regulators set about de-risking the banks after the global financial crisis (GFC), driving much of riskier lending into the nonbanks. Today, no fewer than seven nonbank lenders have loan portfolios that would put them among the top 40 banks. Apollo would be the 10th-largest bank today, Blackstone 15th, KKR 23rd, Ares 24th, Brookfield 25th, Carlyle 28th, and Blue Owl 39th.

Today, according to KBW, nonbanks account for 50% of commercial real estate lending, 58% of consumer credit, 62% of commercial and industrial lending, and 79% of residential real estate. We bring this up to make a point that, in times of stress and/or uncertainty, the U.S. financial system is far more diversified in terms of credit providers than it ever has been (and far better than just about all other developed countries). And this doesn’t include credit markets, which provide some 65% of all nonbank lending. That means banks (always subject to the whims of their regulators) are far less important than markets and nonbanks (that are merely subject largely to the whims of markets) in terms of providing credit to the economy. As we have noted many times on this podcast, having a vibrant, multisource credit function is superior to lending concentrated in heavily regulated banks in one very important way: Markets and nonbanks provide a better shock absorber than banks, which cede control to regulators in times of stress, and this often results in a more severe credit crunch.

Alright, on to our third Thing—The IMF’s latest forecast.

The International Monetary Fund (IMF) came out with its latest World Economic Outlook and it’s fairly bullish, all things considered. “All things,” of course, includes inflation, two hot wars and the geopolitical tension that goes with that territory, and China’s ongoing issues, including its property sector distress. For 2024, the IMF is forecasting global growth of 3.1%— that’s 0.2% higher than last October’s forecast. For context, recall that the 20-year annual average prior to the pandemic was 3.8%, so let’s curb our enthusiasm at least somewhat, but given where we were a year ago—where calls for a global recession were not all that uncommon—this should come as a relief.

The improvement in the outlook is attributable to widespread disinflation, partly driven by the benefit of falling energy prices. Over 80% of the world’s economies are expected to see lower headline and core inflation in 2024, according to the agency. The improvement is driven by favorable supply-side developments and, somewhat paradoxically at least to us, tightening by central banks, which has kept inflation expectations anchored. The IMF does recognize, however, that the relatively high level of rates and the withdrawal of fiscal support will weigh on growth in 2024.

Regionally, the U.S. is expected to grow 2.1%, which is 0.6% higher than the October 2023 forecast, and well above the 1.5% Bloomberg consensus, and even the Fed’s 1.8% longer-run estimate. The IMF believes that resilient consumer spend, aided by confidence that comes from tight labor markets, is driving the growth.

The eurozone is forecast to be a bit weaker than was the case in October, with growth estimated to come in at 0.9%, down from the previous estimate of 1.2%. Weak consumer sentiment, still lingering effects of higher energy prices, and weakness in interest rate-sensitive manufacturing results in what the agency calls “notably subdued growth.” Similar

themes underpin the UK’s 0.6% 2024 estimate, unchanged from October. In Asia, China’s forecast improved 0.4% to 4.6% on greater stimulus, while Japan is forecast to grow just 0.9%.

Downside risks to the forecast include commodity price spikes due to geopolitical and/or weather shocks, and faltering growth in China.

All of this is consistent with our expectation that a soft landing is likely across the globe, something that will likely put the scourge of inflation in the rearview mirror for much of the developed world. The effects of the pandemic may finally be behind us in the fifth year since the outbreak.

January 26

This week, our 3 Things are:

1. That GDP report. Everyone—literally everyone—missed this. Here are our takeaways.
2. Beware of the aggregate statistic.
3. Earnings warnings. Underneath market euphoria is some sobering guidance.

Alright, let’s dig a bit deeper.

A whopper of a GDP report.

3.3%. That’s just about double what the Fed’s longer-term growth estimate is for the U.S, and it comes at a time of significant monetary tightening and acute awareness, at least among businesses, that a recession remains a distinct possibility in 2024.

By now you’ve read that of the 68 economists surveyed by Bloomberg, 3.3% was significantly higher than every single estimate, with 2.5% being the highest in the group. Sure, the so-called volatile categories (inventories, net trade) accounted for much of the upside surprise, but it remains a surprisingly solid outcome in the wake of the strongest monetary hiking cycle in 40 years.

Here’s our takeaways:

• Consumer spending (+2.8%) just won’t quit … yet.
• Excess savings remain larger than most expected (Bank of America says deposits across consumer income groups are 135% of pre-pandemic levels).
• Wage growth has beaten inflation growth in six of the past seven months.
• Jobs remain plentiful (96.3% of the labor pool has a job), with the added security of employees knowing they should be able to find a job quickly if they were to lose one.
• Household net worth is just off record highs.
• Some of those saving for a home have given up and are deploying retail therapy in its place.
• Some consumers are delusional about maintaining a lifestyle that elevated during the pandemic courtesy of stimulus; as savings deplete, they are borrowing via buy now, pay later and credit card availability to keep it all going.
• Government spending (0.56%) chips in—state and local government hiring drove an increase.
• Capex (1.9%) is hanging in there—businesses are much more pragmatic than consumers, but confidence in an earnings rebound has brought back a willingness to invest.

Is this the last hurrah? We believe so in terms of this outsized strength. We expect consumer spending to moderate over the course of 2024, as many of those factors we noted rationalize, especially excess savings and growth in real wages. But it does strengthen our call for a soft landing and is likely to push out rate cuts.

Alright, on to our second Thing—Narrowness.

Don’t fight the tape. Words of wisdom, for sure, and we seem to be caught up in one of those moments where that advice is well taken. Stocks are at record highs and spreads are well through long-time averages. A quick survey across the media (and Bank of America’s Global Fund Manager Survey) says the likelihood of a hard landing has gone to a tail event. Have I missed something?

The answer, humbly, is no. Remember back in mid-December, we saw a survey of 18 Wall Street strategists evenly split on recession/no recession in 2024. Of course, that was before hot retail sales and GDP reports.

Well, maybe it’s the same old story, the Magnificent Seven stocks have once again ripped higher, and taken sentiment with them. In fact, technology is the only S&P sector that hit a record high. For what it’s worth, the equal weighted S&P 500 is 5% below its high set two years ago and the Russell 2000 is 19% lower than its high. Peel back that onion a bit, and a different story emerges. Parts of the economy are doing well, and other parts less so. There is a narrowness to  the strength.

We see it in the labor market. Yes, the unemployment rate has been below 4% for two years now, but private sector job growth over the past six months has come almost entirely from leisure and hospitality, health care, and education. Together, those sectors represent just over one-quarter of economic output. The latest manufacturing surveys from New York, Philadelphia, and Richmond, Virginia, are all decidedly negative, and all missed the estimates by a bunch. Again, a narrowness to economic growth.

Wells Fargo commented on its recent earnings call that, in the aggregate, its measures of consumer financial wherewithal “paint a pretty good picture.” But it continues to point out that there are cohorts of people who are more stressed than what the aggregate numbers imply. Management seems to be signaling what our own data is showing in non-prime securitizations: delinquencies are rising at a rate that warrants close attention. Again, a narrowness to  economic prosperity.

How about earnings? Of those same 18 strategists that were split on whether we end up in recession, all 18 forecast earnings growth for the S&P 500. Small caps? Not so much. Some 40% of the Russell 2000 is unprofitable according to J.P. Morgan Asset Management.

Yes, leftover effects of the pandemic are clearly carrying the economy, but if you’re trying to see around the corner then keep an eye on small businesses, where one-half of Americans are employed by a large number of unprofitable companies, according to Russell data. And keep an eye on the behavior of the one-half of American households that live paycheck-topaycheck. I’m guessing it’s easy for most listeners to lose sight of those.

Alright, on to our third Thing—Earnings disappointments.

So, against the euphoria of that record-setting stock market, earnings—which underpin the stock market—have had a growing list of disappointments from a range of bellwethers. Apart from decidedly idiosyncratic stories such as Boeing, and its latest transgressions, the disappointments are more regarding the softening of 2024 guidance instead of material  earnings misses.

3M, whose stock is down 55% since mid-2021, provided more evidence that keeping control is challenging in a conglomerate and there is a real cost to a business undergoing a major restructuring. Its newly updated guidance reflects a “muted” macro environment, where demand in core U.S. industrial markets is mixed, while China and consumer retail end markets continue to be soft. Its new 2024 guidance calls for earnings to be 1%-5% below the Street’s consensus.

General Electric is approaching the end of its multiyear breakup of its conglomerate. Investors have cheered the execution of its ambitious plan, with its stock up 61% over the past year. Still, management threw a bit of cold water on the story by signaling adjusted earnings in 2024 are likely to be 7%-14% below consensus.

Texas Instruments guided its first-quarter sales to a level 8%-16% lower than estimates, resulting in earnings that are expected to miss by 18%-32%. Increasing weakness across industrial and a sequential decline in automotive demand is driving the expected softness in the company’s results.

DuPont warned that Q1 sales are expected to be 8% below the Street estimate due to inventory destocking among its industrial customers as well as continued weak demand in China.

Discover warned that losses on its consumer loans are likely to be substantially higher in 2024, as turbocharged growth during the pandemic vintages season.

The important message here is to curb your enthusiasm, rather than duck and cover. The economy is set to slow, notwithstanding that GDP report, and we would expect earnings growth to come down over the course of the year from its lofty, double-digit expectations.

Read More About Fintech Interviews: Global Fintech Interview with Andrey Korchak, CTO at Monite

January 19

This week, our 3 Things are:

1. Anatomy of a soft landing. We’ll walk you through our building blocks.
2. Big bank color. Our latest update on how the largest lenders are seeing credit.
3. Private credit maturity wall. Here’s the data.

Alright, let’s dig a bit deeper.

Anatomy of a soft landing.

It’s not quite as bad as 2020, when we were trying to figure out what shape the recovery would take. You remember: Vshape, L-shape, Nike Swoosh-shape. But figuring out what “the landing” looks like is the markets’ latest obsession. Of the choices—no, soft, or hard—we are squarely in the “soft” category. So, what does that look like?

We start with economic growth. By definition, that means we are in the 50% of market strategists that see no recession. By the way, that 50% comes from a Bloomberg survey of 18 strategists back in December. We see modest growth— sub-potential—if potential is the Fed’s 1.8% longer-run estimate it shares with us in the Summary of Economic Projections. Consensus, according to Bloomberg, is 1.3% for 2024, and that’s where we are. Underpinning that view is the consumer’s ability and willingness to spend based on its strong balance sheet, including savings at 135% of prepandemic levels, near-record net worth, low financial obligations burden, and the confidence that goes with being employed in a strong jobs market.

Spending is coming down, judging by data we see from the Bank of America Institute, but that’s consistent with a soft landing. On the commercial side of things, we also see relatively strong balance sheets and improving earnings growth, and both are partly a function of the long lead time to prepare for the growth slowdown, as well as favorable financial conditions over parts of the pandemic period.

Speaking of which, interest rates and interest rate volatility are settling down. And while we are not expecting “The Great Monetary Pivot” implied by Fed Chair Jerome Powell back in December, we do believe cuts are coming. We see three cuts starting at midyear, and the absolute level of rates—sub 4% 10-Year by year-end—is benign.

How about the financial system? Well, it’s in good shape. Capital from banks, nonbank lenders, and markets is flowing to its productive uses, and concern over systemic threats suggested by last March’s bank failures has largely been put to rest.

And finally, we have geopolitical risk. It’s out there, but we believe game-changing risks are tail risks. The one to watch closely is a possible escalation of war in the Middle East, as that could impact the price of energy and the efficiency of trade. But for now, steady state is manageable from an economic standpoint.

Add it all up, and you get a reasonably performing economy in the U.S.—no small feat having come through the fastest hiking program in 40 years and a banking crisis. Let’s count our blessings.

Alright, on to our second Thing—Big bank credit color.

So, when trying to think through what kind of economic landing we are facing, regular listeners of the podcast know we look to the quarterly earnings presentations and calls from the big banks for insight and forward guidance.

So, what have we gotten at this important point—this inflection point—in this cycle? In a word? Stability. In two words: cautious optimism.

Being a big bank CEO means you’ve been through more than a couple of cycles. You also grew up professionally in a business where the big banks were the kingpins of the financial system. You also grew up in an environment where too much competition and deregulation often drove risk and reward out of synch. Banks became turbo-cyclicals that went bad every five to seven years, in the words of one still-standing bank CEO. And so, given that heritage, you could almost hear a faint air of disbelief in management commentary on the latest quarterly results. As in, “We’ve just gone through the strongest rate shock in 40 years, we had the federal government step in to prevent a banking crisis, and credit has still yet to crack!” But it’s true.

Yes, there is lots of talk of write-downs of commercial office loans and “normalization” of loss rates in cards. But elsewhere—and there are a lot of “elsewhere” loans, something like $3.5 trillion worth—credit seems to be in relatively good shape. The banks have been reserving under a 5%+ unemployment rate assumption, reserving for that rainy day that just doesn’t seem to be on the horizon. Managements mentioned the improved macroeconomic environment as a positive development underpinning loan quality. JPMorgan Chase said it is “uncontroversial that the economic outlook has evolved to include a significantly higher probability of a soft landing.” OK, then. Wells Fargo, which has tightened underwriting standards, and is “closely monitoring” credit—there’s that baggage from the past—has seen what it calls modest deterioration consistent with expectations.

All agree the consumer, in the aggregate, is in good shape. CEO Brian Moynihan at Bank of America sums it up well: “Their balance sheets are in good shape, and while impacted by higher rates, many have fixed rate mortgages and remain employed. [They] have access to credit and are borrowing responsibly.” But, to be clear, the largest banks bank higher-income consumers. Wells Fargo did point out that while the aggregate dimensions of the consumer look very solid, lower-income cohorts are stressed, and losses will eventually flow from there. But put it all together and the bank is seeing performance in the consumer portfolio consistent with that pre-COVID, nothing worse.

On the commercial side of things, concern is centered almost entirely on the office portfolio, where the loss phase is underway. JPMorgan Chase acknowledged a deterioration in its commercial real estate (CRE) valuation outlook. Wells opted for a movie analogy when describing where we are in the office loss recognition cycle as opposed to the hackneyed baseball innings one: “We’re past the opening credits, but we’re still in the beginning of the movie.”

BofA said outside of the office sector, loan quality remains in a “very, very good place.” The improving backdrop also shows up in lower marks on leveraged loans—another indicator that all is OK, even among riskier credits.

So, that forward-looking loan quality indicator—the loan loss provision—remained better than just about anyone would have expected a year ago. BofA actually had a net release of reserves. JPMorgan Chase’s and Wells’ modest reserve builds were driven by card growth and office losses.

But to sum it all up: It’s so far, so good in credit, and the forward look is that this turn in the credit cycle feels relatively benign, consistent with a soft landing.

Alright, on to our third Thing—Misplaced concern over a 2024 maturity wall in private credit.

We have long been wary of fear stoked in the marketplace around maturity walls. Sure, they exist, but I’ve never met a maturity wall that can’t be climbed (it’s kind of like another overused descriptor, the “wall of worry”). It really comes down to a risk assessment.

So, when we hear of concerns over an impending maturity wall in private credit, I suppose the worrier is concerned about loan underwriting in private credit.

I bring this up to highlight a recent KBRA research piece, Private Credit: 2024 Maturity Wall Is a Myth. Our researchers examined loan maturity data gathered across the private credit landscape, including credit estimates of more than 1,800 middle market private credit borrowers representing over $750 billion of debt, and concluded that there is no pending outsized maturity wall. We estimate that only 10%-15% of the total loans in the market are scheduled to mature over the next two years. This is similar to what we see among traditional corporate debt issuers.

Now, near-term maturity risk is real, as the piece points out, for a relatively small subset of sponsored companies, whose debt is scheduled to mature in 2024 and whose values have weakened because they have either not grown to potential and/or have declining values that substantially diminished liquidity cushions. However, based on our ratings analysts’ surveillance of KBRA’s growing portfolio of private credit ratings and estimates, KBRA believes these risks remain idiosyncratic and relatively muted.

Our researchers take on the view promulgated by some, including certain legacy rating agencies, that there is systemic risk because of conflicts of interest in private markets. KBRA’s surveillance of transactions sponsored by numerous direct lenders concludes the opposite. Medium to large direct lenders remain uncompromising in their strong lending position and have the resources needed to extract value from their investments. In fact, 2024 may see the migration of value to private credit lenders from private equity sponsors, as equity cushions get consumed by lenders in defaults, or as sponsors need to inject additional equity into their investments to protect their positions.

Overall, KBRA continues to believe that the greatest risks in the private credit market remain idiosyncratic, where companies facing higher interest costs and slower growth are placing outsized pressure on their liquidity, valuation, or both. The piece adds that the universe of smaller and newer companies sponsored by inexperienced owners that lack the resources necessary to restructure their overleveraged investments are particularly vulnerable.

[To share your insights with us, please write to  pghosh@itechseries.com ]