Should you loosen your belt when you’re on a diet?

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Brexit relatedI have mixed feelings about Mark Carney’s speech yesterday, when he announced that the Financial Policy Committee would ease banks’ capital requirements, encouraging them to lend.

Relaxing capital requirements to ease funding availability for individuals and SMEs may work. It’s a bit like targeted QE and if we can stabilise sentiment and continue growth with a weaker pound, it may prove a masterstroke.

But I can’t help the nagging feeling that it’s a bit like the morning you wake-up after over-eating and loosen your belt or put on a size larger pair of trousers. You immediately feel comfortable but there is a little voice telling you that it’s not the solution.

So, why not?  The Bank of England frequently tell us that our banking system is better capitalised than before the financial crisis and, in the case of the very large banks, that is undoubtedly true.

What about newer, challenger banks though?  Despite ongoing lobbying to create a level playing field, many challenger banks – asset class dependent – have similar tier one capital ratios to the behemoths. And yet their portfolios are inevitably less well spread and consequently could be riskier. This is particularly the case in relation to commercial mortgages and risker forms of lending.

I was told recently by a policy maker that a “managed failure” would be good thing and that it would prove the strength of the system. This may be true. Only time will tell and a full economic cycle will be needed to judge, but I wonder whether industry commentators will be so sanguine come the day?

The purpose of a stronger capital ratio is to absorb more losses in a downturn and thereby protect depositors. To loosen capital ratios at a time of potential downturn appears at first blush to have the potential for increasing the risk to depositors.

So, is the risk actually higher? Well, in the market I see most of (SME funding), I have been warning about overheating for some time due to a swath of newer, online lenders flooding the market in recent years.

We are seeing larger cash advances, lower pricing, weakened covenants and weaker security. I’ve warned before that this will end in a bust of sorts. This isn’t to say that some of these online lenders won’t  survive and do well, but it’s a good bet that some won’t.

In my view, this was going to happen regardless of the Brexit fall out – it’s a clear case of supply exceeding demand. But will the issue become compounded now the Bank has increased supply? Maybe.

Now we have loosened our belts, the world suddenly looks a little brighter and it seems as though we have room to grow. I guess the worry is that when we expand up  to the next notch on the belt, our diet will need to be even more extreme and the correction in SME funding (and lending more broadly) may be even harder on the economy.

It is possible that the Bank have genuinely reinvented the way our economy and its banking system works, but decades of market experience lead me to be cautious.

The unholy Trinity?

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It would be tempting to blame Brexit for any forthcoming downturn, but its roots run deeper. The Government seem hell bent on increasing home ownership again. Probably because it brings with it increases in Conservative votes.

So, it was with some surprise that we witnessed the Chancellor attack its existing supporters by increasing the stamp duty on Buy to Let purchases, reducing the tax efficiency of such purchases and complicating the taxation process too. If that were not enough, the Bank Of England has recently weighed in to try and stem the growth in Buy to Let by restricting people’s ability to borrow.

Why should we worry about this?  Cast your mind back to the financial crisis. It is possible to make a case that the problems were exacerbated because the Treasury, the FSA and the Bank of England openly disagreed on policy on a regular basis. This “trinity” governed our financial response to the crisis.

Despite a different sharing of power not much appears to have changed. They may get on slightly better but the FCA, Treasury and Bank still appear to communicate ineffectively with each other.

So, just when the Treasury and the Bank are effectively thwarting buy to let, the FCA are busy making it harder for people to take out mortgages. The new affordability checks are rational and may well stop the excesses we have seen before but they still have the effect of choking off demand.  People therefore need to rent. Couple the inability of some to buy or maybe now to even rent and we risk a structural shortage of housing being transformed into falling house prices. That is quite some trick to pull off!

The current greenfield development binge in Southern England is not just laying waste to the countryside but it is exposing builders to the vagaries of demand. Surely, with pent up demand they can’t lose can they?  Well if the Trinity have their way they just might. All of this might not matter if SMEs weren’t gearing up to support growing demand and if we hadn’t just voted to leave the EU. We could see a house price fall start a recession.

It is time our Trinity started to talk to each other.

Is SME lending about to catch a cold?

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Amid concerns over oil prices reaching a low of $10 a barrel, stock markets around the world tumbled yesterday. At 4pm (GMT) The Daily Telegraph reported that £60 billion had been wiped off the FTSE 100 as the day’s trading looked set to close 4 per cent down. As market analysts assess the impact, many will point the finger of blame at volatility in the East.

However, the catalyst isn’t just one thing but many: a number of adverse factors, combining to send ripples through global financial markets. Slowing growth in China is clearly one such factor, but there are others.

The International Monetary Fund (IMF)’s downgrade of its global growth forecast, residual effects of the Eurozone crisis, the tumbling price of oil and other commodities and the knock-on effects on markets such as Russia and Brazil are leading to significant investor jitters.

But did we see it coming?

Unfortunately the answer is most likely yes. Alongside others, I warned of the potential of another recession throughout the past year. We have learned little from the 2008 global downturn and I believe it’s only a matter of time before global economic commentators return to banding around the dreaded ‘R’ word.

So what next?

The Governor of the Bank of England has signified that an interest rates rise is likely to be delayed until later in the year (if at all in 2016). It’s clear that Mr Carney is also concerned and is keeping the one remaining – albeit diminished – monetary policy instrument up his sleeve in case things take a severe turn for the worst.  And unless markets recover, there’s a significant possibility that the tides will turn towards another recession. At this stage, UK SME lending will start to catch a cold, as banks begin to retreat and investors pull back from market-based lenders.

Over the past 18 months there has been massive overheating in the supply of finance to SMEs and if UK growth reverses, the loosening of security criteria amongst lenders, coupled with reduced margins, will end in pain. It always has in the past.

This time there is a new breed of lenders, many of which think the rules have changed. However, the vast majority are yet to see a full economic cycle through.

I believe that only those funders who have weathered the storm and come out the other side in the past will succeed in a downturn.

Asset based funding: underused and untapped

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A recent assessment from The Bank of England’s Q3 Credit Conditions report found that “credit availability for smaller firms had improved and was approaching normal levels.”

It’s fair to say that in my thirty-plus-years in the financial services industry, I have never seen so much money chasing so few business customers. Whether peer-to-peer lending and crowdfunding or traditional banking channels, SMEs are swamped with lending options.

It’s clear, however, that many SMEs don’t want to take on further debt to grow their businesses.

But even if business owners don’t want to extend credit lines further, or take on new lending, there’s a significantly untapped asset, which is much closer to hand and already owned by the business – it’s invoices.

This Autumn, the Asset Backed Finance Association (ABFA) reported that British small and medium sized businesses are owed a staggering £67.4 billion in unpaid money, a £18.9 billion increase since 2011[1]. Literally billions of pounds of potential funding is left untouched by SMEs who could be borrowing against their invoices to secure vital short-term funding.

In our SME Confidence Tracker, worryingly we are now seeing emerge an underlying hesitance and caution amongst small business owners and decision-makers. Less than half of SMEs expect their business to grow in the weeks leading up to the new year, while 16% are resisting investment to focus on building up their cash reserves.

This conservative approach extends to a focus on the upkeep and maintenance of their existing businesses, replacing broken machinery and equipment, rather than investing for growth.

But smart investment now will position a small business ahead of competitors and ready them for that next big business decision: whether that’s exporting into overseas markets, adding a product line, or hiring a new intake of skilled staff.

When funding was tight SMEs had no choice but to hold-back on growth opportunities. Now that the market is awash with capital just waiting to fund growth plans, we must encourage our small business owners to be more ambitious in their outlook in order to keep fuelling sustainable growth. Though just one option available to SMEs, it has been encouraging to see asset based finance take a higher profile in such discussions over recent months.

Right now, there is a fantastic opportunity for SMEs to reach out to secure the funding support they need, not just for day-to-day orders but for growth.

If you’re interested in finding out more about unlocking working capital, check out some of our client case studies on the Daily Telegraph website here.

Dark clouds on the economic horizon according to UK SMEs

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The findings of our SME Confidence Tracker, reported in the Daily Telegraph, highlight subdued business confidence in Q3. Our research among 1,000 UK SMEs, shows declining business performance and significantly lower sales expectations for the final quarter, when compared with the same period in 2014.

Investment is also on shaky ground. Less businesses are recruiting, and – overall – investment in people is down 6%, year-on-year.

Though there are small pockets of optimism in both geography and industry, research points to a more cautious and pragmatic approach to the future. Those businesses that are investing are prioritising IT and equipment over people.

The results of the Confidence Tracker align with the Bank of England’s summary of business conditions for August and September, which shows slowing growth throughout the UK and across key sectors.

Ripples from overseas
Many observers believe that concerns over the stability of the global economy – as a result of declining growth rates in China – have caused anxieties in the UK economy and UK PMI reported  the weakest growth since April 2013 in September.

These concerns are compounded  by further questions over interest rates in the UK and US, the ongoing debate over EU reform and referendum and low – or negative – inflation we have witnessed in recent months. One can’t forget Russia either.

I believe that there is underlying inflation which is being masked by weak oil prices. If this is the case, when oil prices stabilise, inflation should reappear quickly. It’s likely to be for this reason that the Bank of England continues to discuss the possibility of a rate rise. There is also a reasonable possibility, however, that  some of these global concerns will dampen down demand, keeping inflation low. Only time will tell.

Problems at home
For SMEs, issues closer to home persist. Bad debt is on the rise, and over a quarter of the businesses we spoke with told us that they have been forced to write-off moneys owed to them in the past year.

Furthermore, late payment continues to act as a barrier to growth with almost half of businesses waiting more than 31 days for payment from customers.

In relation SME lending, things are also wavering. In my 37 years’ experience of lending, I have never witnessed so much money chasing so few business customers. One result of this is lower prices and – while this may be positive for SMEs in the short term – the accompanying rise in risk taken by many lenders is unlikely to end positively. In my experience, the longer a correction takes to arrive, the harder the landing will be.

Whatever the outcome of these domestic and global issues, it seems – for the time being at least – the hopeful optimism of last year has been replaced with anxious uncertainty as we move towards 2016.