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Marcus Slows Lending Growth, Zelle vs Venmo, Freedom & Upgrade Deals

By Vy Phan

October 21, 2018

Greetings, Earnings’ season continues with Bank of America, Goldman Sachs Morgan Stanley reporting this week.  All reported significant double-digit increase in earnings YoY, with earnings at Bank of America rising by 32% YoY. That said, the drivers of growth for the banks vary substantially – we will dig into that this week. We also perform a deal deep-dive of two ABS offering this week from emerging ABS issuers in the personal loan space: Freedom FREED 2018-2 and Upgrade UPGR 2018-1. Large Money Center Banks Taking Deposit Share and Benefitting from Rates Overall, large money center banks such as BAC, JPM, and Citi have grown profitability substantially as compared to their regional bank and community bank competitors. The growth is driven by two forces: money-center banks have outperformed other bank segments in deposit capture due to i) investments in online digital banking experience, ii) integrated wealth and banking offerings (such as secured lending), and a renewed iii) expansion of retail bank branch footprint after years of consolidation. Second, large money center banks have benefitted disproportionately due to rising long-end rates while also keeping payouts on deposits very low. Bank of America for instances pays a 2 bps on a savings account as compared to 195 bps for Goldman’s Marcus. Trading is Not Enough – MS & GS dialing up lending…in different ways I-banks results from trading are inconsistent and lumpy. Newcomer banks, such as Morgan Stanley have prioritized warehouse lending and secured lending as core drivers of growth. MS to date has avoided unsecured lending, and remains the only top 6 bank without an unsecured lending capability. GS has taken a more aggressive tack – by re-positioning GS longer-term as a digital consumer bank. A successful move into consumer banking would provide GS with a longer-term higher ROE than their investment banking rivals.  The WSJ notes, however, that the street has not rewarded Marcus for its early foray into consumer banking: “Goldman lacks the big lending and consumer businesses that buoyed earnings at rivals” and this shows in the stock price: Source: WSJ The set of lending businesses at GS represent a cornerstone of the $5 Bn revenue growth initiatives. However, at $4 Bn+ in origination since inception, the Marcus loan book is not large enough, at least today, to make a difference to GS’s bottom-line. Another issue weighing on GS is growth in loan loss provisions. GS is the only bank whose provision for loan losses increased this quarter, far outpacing loan growth (and what might be expected from loan seasoning). Provisions rose by 172% YoY to $174 Mn, while loans grew by 72%. GS will temper Marcus origination growth and not “chase volume targets”. This is partly driven by the late-stage of the credit cycle (and we believe higher customer acquisition costs). Due to the lower growth forecast, Marcus like many other banks, will focus on building out their offerings to grow share on the other side of the cycle. These moves, however prudent and sensible, push the earnings potential of Marcus that much farther into the future. Barclays Responds to GS’s “Home Turf” Challenge – Expands Digital Bank Across US GS announced a few months ago plans to develop a lending business in the UK market. The UK market is dominated by a club of 5 banks including HSBC, RBS, Lloyd’s, Standard Chartered, and Barclays. Barclays this week responded to GS’s “home turf” challenge in kind by announcing (during earnings week for effect) plans to launch a digital-only bank in the U.S starting with checking accounts. Barclays already has a $25 Bn US credit card portfolio and ~$14 Bn in deposits and serves 13 MM US customers. Barclays will launch a high-rate checking account to boost deposits (~$13.6 Bn vs. Marcus ~$25 Bn). The major news is that Barclays will offer loans on the open market and on aggregator sites competing with Marcus and other FinTechs. Bank of America – Record Earnings and Results for Zelle BofA’s earnings were boosted by the highest Net Interest Income since 2011 delivered by its Lending business. BofA also saw P2P payments rise on its Zelle platform increase 138%. Venmo, over the last year, has been on the defense due to increased consumer fees and leadership changes. SnapChat’s payment service was discontinued. Tech firms such as Google, Facebook, Tencent, and Ant Financial continue to test payments in overseas markets like India (where it is easier for FinTechs to utilize payments rails). MS remains laser-focused on growing asset management and lending (secured and warehouse lending) and delivered the best stock price performance post earnings. The stock gained 5.7% post-earnings. Source: Bank Earnings, PeerIQ Next week we will review the earnings of Credit Card issuers. After the earnings seasons concludes, PeerIQ will release our latest Lending Earnings Insights report which consolidates key metrics and scans bank earnings for any commentary on credit performance or where we are in the credit cycle. You can find our previous Lending Earnings Insights report here. Freedom (FREED 2018-2) vs Upgrade (UPGR 2018-1) This week we analyze Freedom’s 2nd and Upgrade’s inaugural securitizations. We congratulate both issuers on their deals. Both are emerging issuers establishing brands in the capital markets. Below we compare these deals on their collateral composition, bond characteristics and triggers. We note that each lender has substantially different lending programs, credit risk profiles, and history – and that shows in terms of deal structure and execution. Collateral Composition FREED 2018-2’s collateral pool consists of 2 types of loans – 45.5% Freedom Plus (F+) and 54.5% Consolidation Plus (C+). F+ Loans: F+ loans are unsecured consumer loans to near prime and prime borrowers. F+ collateral has a WA age of 3 months and WA remaining term of 46 months. The WA current FICO score of the pool is 713 and the WA interest rate is 16.2%. C+ Loans: C+ loans are offered to select qualified debt settlement clients as an option to shorten the duration of their debt settlement program by making funds available immediately to fund settlements reached by Freedom Debt Relief. C+ collateral has a WA age of 8 months and WA remaining term of 45 months. The WA current FICO score of the pool is 562 and the WA interest rate is 22.9%. UPGR 2018-1’s collateral pool consists of unsecured consumer loans. The collateral has a WA age of 2 months and WA remaining term of 41 months. The WA current FICO score of the pool is 691 and the WA interest rate is 15.9%. Freedom’s C+ loans have the highest weighted average coupons and original loan terms among all the pools, and Freedom’s F+ borrowers have the highest weighted average credit scores. The higher weighted average coupon on C+ loans helps the deal generate significant excess spread. Source: Ratings Agencies, PeerIQ Bond Characteristics and Pricing FREED 2018-2 has a collateral balance of $383.5 Mn and UPGR 2018-1 has a collateral balance of $286.39 Mn. Upgrade is issuing a D tranche as well. Original OC for FREED 2018-2 is 9% while that for UPGR 2018-1 is 6.35% and both deals have a Reserve Account equal to 0.5% of the collateral balance. Source: Ratings Agencies, PeerIQ Capital Structure The chart below shows how the capital structures of the 2 compare. UPGR 2018-1’s classes A, B and C have roughly 10% higher CE than FREED 2018-2’s classes respectively, although FREED 2018-2 should generate a higher excess spread. Source: Ratings Agencies, PeerIQ Trigger Talk FREED 2018-2 has the most aggressive cumulative net loss trigger, which starts at 3.25% and goes to 18% by month 35, providing senior bond holders better protection in case of higher than expected losses. Source: Ratings Agencies, PeerIQ PeerIQ’s ABS Investor Portal allows users to analyze and benchmark the loan-level collateral of major ABS issuers, perform Stress Test scenarios such as the 2008 global financial crisis, and project cash flows. Reach out to learn more!   Conferences: Industry Update: Lighter Fare: