As growth in unsecured lending rises by more than 20% year on year with the expectation that it will reach 30% by year end, there is concern about a bubble forming.
With the memory of the 2009 financial meltdown still fresh in our minds, one would be forgiven for seeing the significant growth in unsecured lending as collective amnesia, or pure stupidity. Credit providers argue, however, that this is just a normalisation of a peculiar credit industry.
Andre du Plessis, chief financial officer at Capitec, said the growth in unsecured lending had to be understood in the context of South Africa, which for many years did not cater to lower-income borrowers.
“Normally, a developing economy starts with unsecured loans and over time this becomes more formalised. In our country, it is the other way round and the secured lending went to a very small portion of the population,” said Du Plessis.
Even in the light of the rapid growth in unsecured lending, it still makes up only about 20% of total lending.
Ironically, it was the National Credit Act that allowed banks to enter into microlending by setting rules, such as how much could be charged for interest and administration. This effectively legitimised microlending and allowed banks to move into this highly lucrative industry.
Having been burnt by the home-loan war in the 2000s that left the banks with unprofitable mortgage books, the big four are changing their mix of lending away from low-margin home loans into the high-margin unsecured credit market.
At the end of December, the value of home loans was R816-billion and they had a growth rate of only 1.2% year on year. Vehicle and asset-finance credit, which is worth R260-billion, was up 8%. Unsecured credit, which includes personal loans, overdrafts and credit cards, increased 23% to R202-billion. Overall, credit increased only 7% — it is the divisions from which the banks are lending that have changed and they are driven by profitability.
The liquidity requirements under Basel III will further drive up the cost of funding, especially longer-term home loans, making them less profitable. A bank that wants to deliver profit to shareholders needs to focus on the high-margin unsecured credit industry.
The risks of unsecured lending
From the banks’ perspective, the financial crisis showed that secured debt was not as secure as they had believed. The value of a house as security was overstated and it proved difficult to sell distressed properties, not only in a collapsing property market, but also because of the social and political pressures of being seen to leave people homeless.
In addition, because of the pricing war in the previous decade, home loans are largely unprofitable books.
Over the years since the National Credit Act was introduced, banks have had time to hone their risk processes for the unsecured market and are confident that they are not exposing themselves to increased risks through the change in strategy.
Peter Schlebusch chief executive of personal and business banking at Standard Bank said that, in terms of unsecured lending, all lead indicators were performing better than expected, with non-performing loans lower than expected.
Funeke Ntombela, director credit for personal and business banking at Standard Bank, said from a credit perspective it had become easier to assess a person’s creditworthiness because the credit bureau data and information from microlenders had improved, which meant the bank had a better sense of the customer’s total debt.
One way of mitigating risk is to lend to one’s own customer base. Schlebusch said about four out of five loans were going to Standard Bank’s own clients. “We can see their transactional account and, combined with the credit bureau information, we have as good idea of affordability as possible.”
Pieter du Toit, chief executive of FNB Smart Loans, said about 90% of the bank’s lending was to its own client base “where we can see their financial health”.
Absa, which reduced its presence in the credit market by 1.5% during the past year, has now stated that its doors are open for business but it will focus on its 12-million customers. “We plan to grow where we have long-standing relationships and our customers get the full-value service,” said Arrie Rautenbach, head of Absa Retail Markets. Although positioning it as a customer loyalty strategy, the reality is that the banks have realised that lending to “the devil you know” is the best risk strategy.
Clouds on the horizon
Even though Du Toit said FNB was comfortable that it was lending in line with affordability, he remained concerned about what other credit providers were doing in the market.
Although the number of the bank’s customers who took a loan from another provider had fallen by a third, these customers could raise the risk of FNB’s business if they started borrowing from other providers, which might not be as vigilant in terms of affordability. Schlebusch said that although there was “no sign of a bubble, we would be worried if this growth continued for another three to four quarters. We will also be looking for warning signs like customers borrowing to pay back loans, or defaulting on consolidation loans.”
Rautenbach said consumers remained under pressure because of rising inflation, petrol prices, electricity tariffs and taxes — pressure that would not disappear any time soon.
“We will grow our balance sheet in 2012 but in a prudent way, looking at macro numbers and giving proper advice.”
Ingrid Johnson, head of retail and business banking at Nedbank, said: “Unsecured-lending market dynamics of high industry growth, many new entrants and concerning consumer credit-health trends provide early warning signals for Nedbank to follow a strategy of selective, risk-based origination enabling the client’s financial fitness.” She said Nedbank’s growth might be different from that of the market as it reduced the size of the loans.
Lending by the formal industry is continuing, but not without caution. Du Plessis said that although some players would take more risk than others, it would be within their risk-appetite profile. Ntombela summed it up best when she talked about bankers’ still-fresh memory of the financial crisis: “These bankers have seen the mess; they are still cleaning it up.”
Longer-term loans alter the consumer debt market
A decrease in mortgage advances, longer-term micro-loans and debt consolidation are all changing the profile of consumer debt, but not necessarily the level of debt.
The National Credit Act not only allowed banks into the microlending industry, it also removed any limitations on the length of micro-loans. This, said Andre Du Plessis, chief financial officer at Capitec, had changed the affordability and nature of microloans.
Banks can now lend larger sums for the same monthly repayments, which has led to a change in consumer behaviour. Customers now opt for longer-term loans to service a variety of needs, rather than taking out many single loans to meet specific needs.
Du Plessis said, typically, a customer might borrow enough money not only to build an extra room, but also to furnish it. People in rural areas who have a regular income, but whose properties do not qualify for a mortgage, would take out a personal loan to buy a house over five years, whereas another might take out a loan to buy a 10-year-old car.
These are all essentially asset-backed purchases without signing over the asset as collateral.
“There is a misconception that poor people are taking longer-term loans to pay for consumption. They work hard at building up a credit record — it takes many years to build up the credit record for a 60-month loan — and they are aware of the risk of losing their creditworthiness,” said Du Plessis.
The lag effect, created through a consumer’s need to build up a credit record for long-term unsecured loans, could also explain the spike in unsecured credit.
It has been five years since the introduction of the Act and it is only now that the majority of consumers have built up enough credit history to take out a longer-term loan, pushing up the value of the loans, but not necessarily the monthly repayment.
As the banks cut down on the unprofitable mortgage industry, they have also cut off a cheap supply of credit for home owners through their access bonds. This, in turn, is resulting in a shift in consumers’ borrowing patterns.
Pieter du Toit, chief executive of FNB Smart Loans, said whereas consumers previously would borrow from mortgages to fund holidays, they now took out personal loans or put it on their credit card. The demand for unsecured lending was not coming from low-income earners but from those earning more than R15 000 a month.
Debt consolidation appears to be another driver of the credit figures and there seems to be an anomaly in how it is accounted for.
A person may take out a single loan to repay other outstanding debt across a variety of credit providers such as stores, cellphone companies and microlenders. Although the loan will show up as an increase in lending because this is formalised through the banking system, it does not seem that the paid-off debt is accounted for unless the bank has actually settled the debts on behalf of the customer, creating the perception that the consumer is exposed to more debt than is actually the case.
Funeke Ntombela, head of credit at Standard Bank, said although there were still pockets of distressed consumers, in general customers would borrow less than the amount the bank was prepared to lend based on their risk profile.