Hi All!

We come to you today with our quarterly consumer lending wrap. As the Fed continues to battle persistent inflation with rate hikes, catch up on the latest trends we see emerging in the consumer lending space: fintech lenders and banks reduce risk, and the Fed’s impact on MPL issuances.

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Lenders Tighten Credit Standards, Originations Fall, NCOs Continue to “Normalize”

Before diving into our fourth quarter coverage, we wanted to cover new industry data released from TransUnion showing an (anticipated) decline in origination volume (originations reported through Q3 due to reporting lag). TransUnion reported 5.6Mn originations in the third quarter, a step back from a record 6Mn in the second quarter. Fintech originations led the decline, a result of tighter capital markets and as lenders cut back loans to riskier borrower profiles. Third quarter below prime new loan balances made up 34.2% of new loan balances, down from 36.4% in the second quarter, signaling lenders moved toward more creditworthy borrower profiles.

Source: TransUnion

At the same time, fourth quarter delinquency rates remained elevated compared to prepandemic levels. While delinquencies came in above prepandemic rates, they were relatively flat compared to the third quarter. 30+ DPD declined by (5) bps, 60+ DPD rose by just 2 bps and 90+ DPD fell by (1) bp. While this only represents one quarter of data, it could signal that credit has “normalized”, as delinquencies did not continue their upward trend.

While delinquencies did not meaningfully change sequentially, the average debt per borrower (of unsecured personal loans) rose to $11,116, up 3% from the third quarter and 16% from a year prior.

Source: TransUnion

Credit card balances have hit record highs, but TransUnion found that the average debt per borrower is largely in line with prepandemic figures ($5,805 in 4Q22 vs. $5,818 in 4Q19). As such, the increase in total credit card balances has been driven by an expansion of access to credit. For now, providing additional consumers access to credit has not proven to be an issue, with 90+ DPD of 2.26% (4Q22) in the same ballpark as prepandemic (4Q19) 90+ DPD of 2.19%.

While overall credit card loan delinquencies remain close to historical averages, young consumers have begun to face trouble paying off credit cards. Consumers in their 20s and 30s have seen 90-day delinquencies rise above prepandemic levels, and rise at a faster pace than older generations.

Looking at auto, we have also seen an increase in delinquencies, in a “normalization” from historically low levels. When looking at 60+ DPD, while delinquencies have trended upwards, (to 5.67%) they have neared, but not yet breached prepandemic delinquency levels. As such, it may be too early to tell if these will continue to trend upwards, or level off, much like unsecured personal loan delinquencies have (according to TransUnion data). With car loans having been pushed aggressively to consumers (even to the point where paying up front meant paying a premium!), it will be important to watch how these loans perform over the next quarter.

Source: Bloomberg

Fourth Quarter Data Shows Fintech and Bank Lenders Continued to Tighten

Turning to fintech lenders, origination volumes continued to slide (with many volumes down double digits sequentially) as companies were increasingly selective with who they extended loans to. Management teams exercised caution amidst an elevated risk of recession that would impact consumer’s balance sheets. Exercising caution included cutting back on loans to less creditworthy consumers, with LendingClub CEO Scott Sanborn explaining, “For reference, our fourth quarter near-prime volumes are down more than 50% from their peak.” While consumer demand has remained robust, the customer base that is approvable in current market conditions has declined.

The outlier in our origination volume chart, Affirm, did see its GMV increase by 29% sequentially. However, Affirm has a significantly different business model, as it focuses on BNPL and this volume tends to be higher in the fourth quarter due to the holiday shopping season.

In addition to reduced origination volumes, fintech lenders are finding it more difficult to sell their loans at an attractive price to investors. As such, fintechs have retained an elevated percentage of their loans, increasing their balance sheet holdings.

Upstart increased its holdings by 44% sequentially (with core personal loans more than doubling) as a result of market conditions. CFO Sanjay Datta explained the decision to retain more loans with, “Liquidity in the secondary markets remained thin during the quarter, and in our view, the market prices for personal credit did not ultimately reflect the extent to which our models have recalibrated to the new trends of consumer default.” Despite the increase in retained loans, management plans to largely limit new additions to the balance sheet.

LendingClub retained 28% of its originations, which was lower than the 33% in Q3, but up from 25% a year prior. Going forwards, management provided guidance that the company plans to maintain the size of its HFI balance sheet and will expect to retain 30-40% of loan originations in the first quarter.

Affirm also followed this trend, with CEO Max Levchin reporting that, “Gross merchandise volume was short of expectations as was revenue less transaction costs as our mix shifted to more interest-bearing loans and we retain[ed] more loans on the balance sheet.”

Source: PeerIQ

Examining NCOs, we observed a similar trend to TransUnion’s data, as NCOs largely continued their upward trend as credit “normalizes”. Enova saw its consumer NCOs increase 99 bps sequentially, but still remained 90 bps below 4Q19 NCOs.

In contrast, OneMain and Oportun have breached prepandemic NCO levels (OneMain +117 bps and Oportun +380 bps compared to 4Q19). Additionally, OneMain has guided toward 7-7.5% NCOs for 2023, representing a range 12-62 bps higher than the fourth quarter. Losses could end up swinging higher if rate hikes tip the economy into a recession and unemployment increases. A looming end to student loan forbearance could further put strain on consumer balance sheets. For now, NCO levels are not particularly worrisome, but should they continue their upward trend, it would represent a cause for concern.

Source: PeerIQ

Bank consumer deposits have declined from record levels (Citi (3)%, JPMorgan (3)%, Wells Fargo (3)%, Bank of America (2)%, PNC Financial (1)%, Citizens (0)%). The decline in deposits came from a mix of customers drawing down on savings to maintain their lifestyles amidst high inflation, and from customers moving cash to higher-yielding savings or investment options.

Capital One and Ally were beneficiaries in the search for yield, each increasing their consumer deposits by 3% sequentially. Capital One and Ally’s primary savings accounts both offer yields of over 3%, significantly higher than consumer accounts at other competing banks.

High interest rates bringing down home values and mortgage applications at a 28-year low translated into lower home lending originations for banks (JPMorgan (45)%, Citi (36)%, Wells Fargo (32)%, sequentially).

Auto giant Ally’s originations fell (25)% sequentially, while Wells Fargo (7)% and JPMorgan (flat) pulled back on growth in the auto lending space.

Much like fintechs, banks’ consumer NCOs have been on an upward trend. Most banks’ consumer NCOs still remain below prepandemic levels, but Wells Fargo’s (+30 bps from 4Q19) and Bank of America’s (+6 bps from 4Q19) NCOs came in marginally higher.

Source: PeerIQ

Bank and Fintech Lender Earnings Summary

Source: PeerIQ

Source: PeerIQ

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MPL Issuance Volume Impacted by Rate Hikes

While the Fed has slowed its aggressive rate hike campaign, the central bank remains firmly committed to its plan to fight inflation. At its Jan. 31-Feb. 1 meeting, the Fed hiked by only 25 bps, slowing down from its 50 bps hike in December and 75 bps hikes in its three prior meetings. Despite the slowdown, the central bank signaled that its job was not yet done.

With inflation remaining “sticky” (according to CPI and PPI data) and the consumer continuing to prove resilient (as evidenced by low unemployment and strong retail sales), investors expect the Fed to continue to hike rates. CME group data shows that investors are pricing in 25 bps hikes at each of next 3 Fed meetings, before a pause. Sentiment has shifted, and markets are banking on the Fed to pivot and cut rates in 2023.

The Fed’s aggressive path has caused many lenders to tighten their credit boxes, to ensure that, should we face a weaker economy, delinquencies remain under control. As discussed, this credit tightening has lowered the customer base that is “approvable”, and driven down originations (and in turn securitizations).

With fewer originations, we saw MPL new issue volume dramatically decelerate in the fourth quarter (down (25)% QoQ and (13)% YoY). Issuance volume is likely to remain diminished as long as the Fed continues to hike and lenders grapple with economic uncertainty.

Higher rates and concerns about the health of the consumer fueled the increase in spreads on primaries in the fourth quarter. For example, the yield of Pagaya’s August PAID 2022-3 Class A issuance (WAL of 1.17) was 6.127%. In comparison, the yield on Pagaya’s November PAID 2022-5 Class A issuance (WAL of 1.17) rose to 8.233%. While Treasury rates rose by 150 bps between the August and November issuances, the +211 bps increase in yield shows that the hike consisted of both spread widening and Treasury rate hikes.

However, the tide may be turning. While yields rose to close out 2022, executives have seen improvement in the early portion of 2023, with Affirm reporting the closing of a January ABS offering that “closed at an average spread 100bps lower than a similar transaction pre-marketed in Nov. 2022.”

Additionally, Upstart CFO Sanjay Datta announced that, “On the funding side, spreads for senior securities in the securitization markets have also shown some initial signs of tightening in 2023 after a very challenging Q4.” While demand for senior tranches has increased, Datta noted the same has not been seen for junior tranches, “We’re still not at the point where there is a real market for subordinate risk. That has not improved versus Q4 .”

Source: Finsight, PeerIQ

OneMain Financial ($795Mn), Pagaya ($542Mn), SoFi ($440Mn), Theorem ($308Mn), Oportun ($269Mn), Mariner Finance ($266Mn), Upstart ($259Mn), Achieve ($226Mn), Goldman Sachs ($214Mn), Regional Management ($184Mn) and Reach Financial ($162Mn) were among the most active players in the space during the fourth quarter.

Source: Finsight, PeerIQ

With many platforms pulling back on funding markets by the end of 2022, cumulative new issue volume ended roughly at the same level as 2021. Early 2023 data suggests a slower start to the year compared to the first couple months of 2022. Through February 27th, 2023 MPL cumulative new issue volume was $2,501Mn, compared to $3,539Mn for the same period in 2022. Facing higher interest rates and economic uncertainty, we would expect originations and, in turn, securitization volumes to remain constrained in the near future.

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