Strategic Insights January 2020
Small Business Credit, Commercial Credit
Main Street Lending Activity Remains Sluggish
The PayNet Small Business Lending Index (SBLI) fell 8.1 points (-5.4%) to 140.8 in November and is 1.9% below its year-ago level. The SBLI 3-month moving average ticked down on a monthly basis (-0.4%) but grew modestly relative to a year ago (+1.2%).
Regional Story: In November, lending activity fell in seven of the ten largest states, led by Illinois (-1.4% M/M) and Ohio (-0.5% M/M). More positively, Michigan (+0.9% M/M) saw solid growth, while both Texas (+0.7% M/M) and North Carolina (+0.1% M/M) reached their highest readings ever. Relative to a year ago, North Carolina (+2.6% Y/Y) and Pennsylvania (+2.2% Y/Y) experienced the strongest growth for the third consecutive month, while contractions in Illinois (-7.3% Y/Y) and Florida (-4.7% Y/Y) accelerated on an annual basis.
Industry Story: Industry lending activity was mixed in November, similar to last month. Monthly growth was strongest in Health Care (1.5% M/M), which reached a 3-year high, and Retail Trade (+0.6 M/M), which achieved its highest reading in more than a decade. Conversely, lending activity fell in Transportation & Warehousing (-1.3% M/M), while Finance and Insurance (-1.4% M/M) fell to its lowest reading since mid-2013. On an annual basis, poor performing industries included Information (-9.4% Y/Y) and Mining, Quarrying, and Oil and Gas Extraction (-4.2% Y/Y), while Construction (+2.5% Y/Y) and Health Care (+7.8% Y/Y) continued to perform strongly.
With an uncertain economic outlook and an election year looming, Main Street businesses are entering 2020 in wait-and-see mode. Though the SBLI is elevated by historical standards, the index has sidewinded in recent months and is well below its April/May peak. Overall business investment was negative in both Q2 and Q3, and Commercial and Industrial (C&I) Loans from banks expanded at a sluggish 1.6% Y/Y at the close of 2020, down sharply from 11% growth in March. As a result, small businesses are increasingly turning to online lenders for funding according to the 2019 Fed Small Business Report, despite less favorable repayment terms and lower satisfaction levels — a potential sign that credit conditions are tightening. More generally, the Institute for Supply Management's (ISM) Purchasing Managers' Index (PMI) for Manufacturing fell in December to its lowest level in more than a decade. Despite these trends, small business optimism remains elevated: the NFIB Small Business Optimism Index rose again in November, fueled by an improvement in reported earnings. Further, the USMCA trade agreement (which is expected to be ratified by the Senate in the coming weeks) and an initial trade deal with China are welcome developments, though the extent to which these events will impact Main Street is unclear.
Small Businesses Financial Stress Remains in Check
The PayNet Small Business Delinquency Index (SBDI) 31–90 Days Past Due was unchanged in November and is 19 basis points above its year-ago level. The SBDI 91–180 Days Past Due was unchanged for a second straight month but inched up 4 basis points on a year-over-year basis.
Regional Story: Among the ten largest states, nine experienced rising delinquencies in November, including Georgia (+16bp M/M), which saw a double-digit increase for the second consecutive month, and Ohio (+4bp M/M), which reached its highest level since 2011. Over the last 12 months, delinquencies increased in all ten of the largest states, with Illinois (+46bp Y/Y) seeing the biggest rise. Regarding defaults, all states experienced increases in November, including 7-year peaks in California (+4bp M/M; +54bp Y/Y) and Florida (+6bp M/M; +35bp Y/Y).
Industry Story: Growth in delinquencies was relatively flat across major industries in November. While Construction (+1bp M/M) reached its highest reading since mid-2012, Retail (-3bp M/M) saw delinquencies decline for the first time in six months. Relative to a year ago, delinquencies have increased in all major industries, led by Transportation (+82bp Y/Y). Regarding defaults, Manufacturing (+6bp M/M; +50bp Y/Y) and Retail (+9bp M/M; +56bp Y/Y) are at 9-year and 7-year highs, while Agriculture (-13bp M/M; -5bp Y/Y) reached a 3-year low in defaults, aided by direct federal government payments intended to blunt the impact of agricultural tariffs.
While the SBDI and SBDFI have experienced little change in recent months, trade and labor costs continue to mount for small businesses. On the labor front, the IHS Markit Small Business Employment Watch reported a weekly earnings growth rate of 4.13% Y/Y in December, an all-time high, while NFIB’s Small Business Jobs Report found that 26% of small business owners plan to raise employee compensation in the coming month — a 30-year high. In addition, Main Street continues to feel the effect of trade tensions, both directly and indirectly through the supply chain, and a recent ProPublica analysis revealed that large companies are using expensive legal teams (which most Main Street firms cannot afford) to successfully lobby for tariff exemptions while also raising objections to exemption applications submitted by small business owners. On a more positive note, small businesses continue to benefit from low levels of consumer financial stress: both the Kansas City Fed Financial Stress Index and St. Louis Fed Index remain near historic lows, suggesting that consumers remain in a relatively strong financial position and should continue to drive small business growth through their spending. Overall, Main Street’s financial outlook is largely unchanged from last month: generally positive, but with caution flags abound.