Thursday, October 23, 2014

Thank You for Your Service: Consumer Finance

Thank You for Your Service:  Consumer Finance

During the 2013 session of the North Carolina General Assembly, I wrote a couple of critiques of legislation amending our state’s Consumer Finance Act.  Despite heated opposition, the law was amended to permit lenders to charge higher interest rates and fees and make larger loans to consumers.  The working poor and enlisted military are a primary target of these products.  Michael Corkery of The New York Times,[1] who previously reported on the burgeoning market for subprime auto loans[2], has taken a close look at the consumer finance business in an article entitled, “States Ease Interest Rate Laws That Protected Poor Borrowers.”  Mr. Corkery’s reporting demonstrates that lenders have successfully amended statutes in eight states and embellished what are already highly profitable businesses.



A year after successfully lobbying our legislature, the industry is still making the same arguments in favor of raising the cap on consumer loan interest rates.   As Mr. Corkery reports, the lenders argue that those caps have not kept pace with the increased costs of doing business, and thus lender profits are imperiled.  However, it’s getting more difficult to make this argument because Springleaf Financial is now a public company and Citigroup has just filed to take OneMain Financial public[3].  I spent some time reading their respective financial statements; these are very profitable businesses.

Moreover, the argument is ridiculous.  Raising the interest rate isn’t like raising the price on a bar of soap to cover increasing expenses.  Rather, consumer lenders make money on the spread between their borrowing costs and high rates of interest (plus fees) they charge their consumers.   Those spreads have never been healthier, and loan losses have dropped.  Consumer lenders aren’t having any trouble attracting low cost capital and making money.  They don’t need any help.

I’ve previously pointed out that public pension plans and other institutional investors are searching for high yielding credits.[4]  In fact, credit has become an “asset class” in many pension plans.  Where do you think these institutional investors are finding these kinds of investments?  Both Springleaf and OneMain promote their ability to securitize their consumer loans.  In other words, consumer lenders are packaging up these high interest loans (much like subprime mortgages or automobile loans) and selling them to yield-thirsty investors, so they can free up their balance sheets and make more loans.

Mr. Corkery documents the political influence and campaign contributions that helped steer the modifications to our consumer finance laws.  North Carolina’s house speaker and candidate for the US Senate, Thom Tillis, was the biggest beneficiary.  His spokesperson, of course, denies that the contributions had any bearing on his support for the bill. 

However, politicians aren’t the only winners.  Banks like Citigroup, which is the sole underwriter of the OneMain IPO, earn hefty fees.  The hedge fund, Fortress, which owns 78% of Springleaf, enjoyed  $345 million in dividends before taking the company public.  All sorts of investors are picking up attractive yields that have been bolstered by state legislatures across the country.  

Politicians, financiers, and investors have come up with a winning strategy that forces folks to take on more consumer debt.  They refuse to support an increase in the minimum wage, but support larger and more expensive consumer loans.  They should offer a special thank you to our men and women in uniform and our working poor.  Not only do these folks defend our nation, tend to our elderly, and clean our hotel rooms, they take on the debt that helps to fund campaign war chests, generate Wall Street bonuses, and fund pension plans.



[1] http://dealbook.nytimes.com/2014/10/21/states-ease-laws-that-protected-poor-borrowers
[2] http://dealbook.nytimes.com/2014/07/19/in-a-subprime-bubble-for-used-cars-unfit-borrowers-pay-sky-high-rates
[3] http://www.sec.gov/Archives/edgar/data/1619573/000119312514366223/d793139ds1.htm#rom793139_18
[4] see, “Our State Senate at Work:  Personal Loans for Hedge Funds,” May 6, 2013