For the fifth consecutive year, I will remove any doubt about the nature of my foolishness. As Mark Twain put it, “It is better to keep your mouth closed and let people think you are a fool than to open it and remove all doubt.” Making predictions is nothing more than a guessing game. Let’s review my top picks for 2015.
Growth within the equipment finance industry came from two primary sources: smaller banks and independents. The November/December issue of Equipment Leasing & Finance listed 65 new members who joined the ELFA in 2015, which included many bank newcomers. This trend will continue.
I like to say “60 is the new 40.” My observation that the greying of the industry was becoming less relevant remains true today since unfilled jobs are readily available for both the young and older industry veterans, with national unemployment hovering around 5%.
Want to play a fool’s game? Try predicting interest rates. My projected rate hikes throughout the second half of the year were dead wrong. The one and only highly anticipated rate hike came in mid-December. Who could have predicted back in 2008 that rates would be flat until the end of 2015? It’s unfathomable.
Competition for lease and loan volume remains fierce. That trend will continue for the foreseeable future, as will the demand for unconventional financial products — more of a pay-for-use model. More on that as we look ahead to 2016.
My projection that the global economy would hold back the growth of the U.S. economy turned out to be right. But I never could have predicted the extent of the drop off in Chinese economic growth, or its government’s manipulation of the Yuan Renminbi. Similarly, I correctly predicted there would be heavy M&A activity in the leasing business. Although, I never imagined the bulk of that activity would surround the GE Capital divestiture.
It may be too soon to determine the accuracy of my observation that an unintended consequence of regulatory oversight may be bridled economic growth.
On to 2016 for a look at what the future may hold.
Trend: During the second half of 2015, the banking industry’s net interest margin fell to the lowest levels in 10 years, and it is projected to stay there. This is having a negative effect on operating leverage, a measure of how revenue growth translates into operating income growth. It measures how risky, or volatile, a company’s operating income is. If banks see declining net interest margins while experiencing increasing costs due to inflation, they experience negative operating leverage and become less profitable, causing angst among shareholders, employees and customers. Expect this trend to continue through 2016. The Fed’s promise of “gradual increases” in rates can’t come soon enough.
Observation: Short term decisions often carry long term consequences. Steady-paced growth of the U.S. economy, along with improved unemployment figures, will contribute to growth in demand for equipment finance. The 2016 Equipment Leasing & Finance U.S. Economic Outlook calls for a 4.4% growth rate in equipment and software financing. While no one believes that competition will lighten up any time soon, margins will remain compressed at record lows, and those who fought for volume during the past few years will be paying for their sins while they wait for the run-off of their low yielding portfolios. Long time industry veteran Paul Gass used to say, “Don’t worry about the thin pricing, we’ll make it up in volume.” Sins of the past have a way of haunting the future. Profitability of our industry will remain flat with bank lessors feeling the most pain.
Prediction: A top independent or captive finance company will be hit by a significant security breach in 2016. Cyber security involves prevention, detection and response to any security breach. By law, banks are required to protect secure data. Big banks are hit the hardest because of their volume of customer data, which represents an immense reward for a successful hacker. Fortunately, big banks are also best prepared. Using automation, banks are able to monitor billions of attacks per day.
As independents and captives are usually unregulated entities, they are not required by law to protect data the same way as banks. Nevertheless, some do. Most technology vendors possess state-of-the-art tools that protect their networks and data. Captives like Cisco Capital, Dell Financial, HP Financial and IBM Global Financing are less exposed than others. Taking a look at the top five captives among the Monitor 100 — excluding IBM — there remains more than $100 billion in assets spread between John Deere, Caterpillar, Volvo and CNH. Doing the same assessment among the top five private independents, there is likely significant cyber security exposure to CSI Leasing, GreatAmerica Financial Services, Ascentium Capital, ICON Capital and Leaf Commercial Capital. It is very plausible that at least one of these companies will experience a major cyber security breach in 2016.
Trend: Wearables have arrived — for real this time! IDC reports a 173% gain in wearables in 2015 versus 2014, and it predicts a 42.6% CAGR from 2014 to 2019, led by fitness, cardiac monitoring, wrist wear, eyewear, ear wear and clothing — it’s not all Fitbits and Apple Watches. The next phase includes brain training devices aimed at improving focus and making you smarter. Smart wearables are the fastest growing segment of this market. Expect to see innovations from major domestic and international manufactures in 2016. Is your company prepared to deal with the growing need to finance mobile devices, including wearables? Are you up for the challenge?
Observation: The divestiture of GE Capital displaced the largest player in the equipment finance and leasing marketplace. It also created some very hefty competitors! Be careful what you wish for because, at times, it’s better to deal with the devil you know than the devil you don’t! Over a relatively short period of time, Wells Fargo, Element Financial, BMO Harris and Capital One have each transformed their businesses by acquiring large pieces of GE Capital. Each firm will battle for customer retention and asset growth following integration of the GE businesses. It makes me wonder who will be the next 800-pound gorilla. Last year’s Monitor 100 showed GE Capital holding a $63.5 billion lead in assets over No. 2, Banc of America Leasing. It will be an interesting transition, and it will be fun to watch what happens as a new competitive landscape takes shape.
Prediction: I believe in the old adage go big or go home. My first trend pointed to the mounting pressure on banks’ net interest margin. Increased regulations have resulted in increased costs associated with compliance. I suspect some will look to scale through M&A activity with hopes of reversing their negative operating leverage. The top four U.S. commercial banks, JPMorgan Chase, Bank of America, Citigroup and Wells Fargo range between $2.42 trillion and $1.74 trillion in assets as of September 30, 2015. The next nine U.S.-based banks — excluding foreign and investment banks, insurance companies and a couple boutique banks — each have more than $100 billion in assets and collective assets of just over $2 trillion. There is a huge delta of more than $1.3 trillion in assets between the fourth largest bank, Citigroup, and No. 5, U.S. Bancorp. I predict that at least two of these nine banks will merge to form a super duper regional, becoming the fifth largest U.S. commercial bank with assets likely in excess of $500 billion. All nine have equipment finance divisions that would be affected by the combination and have an impact on our industry (see table on next page).
Trend: For the past several years, we have seen the industry’s traditional financial product mix transition from hard assets to more software and services. This trend continues as businesses seek financial solutions that allow for pay for usage models. This is particularly true when it comes to technology and renewable energy products. This trend has caused disruption among some lenders as they seek prudent ways to document such transactions. At last year’s annual ELFA convention there were three separate, well-attended sessions devoted to this subject. Look for continuing evolution in this area. End user documents may include right to use agreements, managed services and supplies agreements or other forms that specifically address the precise needs of the customer. To adapt to this trend, lenders must play a consultative role with their suppliers to influence how the end user documents are drafted and finalized. By ensuring that the documents contain certain necessary protective clauses, lenders will find greater comfort in taking assignment of the payment obligations due under those agreements. If you are not providing this sort of direction to your suppliers or vendor partners today, you may have a difficult time competing in the new as required when required economy.
Observation: The U.S. economy is strong and getting stronger. Pundits forecasted December’s jobs report at 200,000 and were off by 46% when it came in at 292,000. The Fed has signaled that it will gradually raise interest rates while monitoring inflation and unemployment. Despite China’s slowing growth, and a very rocky New Year’s slide of the stock market indices, the fundamentals of our economy remain solid. In fact, the U.S. has been experiencing slow economic recovery for six and half years since the Great Recession ended in mid-2009. Unemployment is below the long-term average. All in all, things look really good. Even President Obama said in his State of the Union Address, “Anyone claiming that America’s economy is in decline is peddling fiction.” Do you remember a few years back when I wrote about the swing of the pendulum? I reminded readers of the height of the irrational exuberance that took place in 2006 and 2007, which was followed by the pendulum’s fast and furious swing from good to bad in 2008 and 2009. Well, don’t be surprised if we see some slowing as we reach the end of the swing toward good. It may not happen in 2016 but, mark my words, the pendulum always reverses course and swings back toward center.
Prediction: Fintech will both disrupt and enable the equipment finance and leasing business in 2016. You may be wondering what the heck fintech is and how it might disrupt or enable your business. Fintech is a contraction of the words financial and technology. It is an increasingly popular term that labels new companies, products and processing methods. For example, Square’s product uses cell phone to process credit card approvals, funding the supplier’s account immediately after deducting appropriate fees.
KPMG and H2 Ventures produced their second annual FINTECH 100, which lists the leading global fintech innovators. Companies such as Square are included on the list, as is Funding Circle, a company focused on small businesses which provides a platform where investors can browse credit-assessed businesses approved for lending by Funding Circle. Once approved, businesses post loan requests in the marketplace where investors choose which type of business to lend to, the amount of money they wish to lend and the interest rate they want to earn.
That’s what used to be called disintermediation. Take out the middle man and lower costs. I predict that one or more of these fintech companies will start to disrupt our industry by poaching both customers and vendor sources through ease of use, automation and speed. It is also highly likely that fintech technologies will enable our industry, leading to higher credit scoring capabilities, data-driven decision-making and highly predictive modeling. Fintech is not a threat — it is the future.
Finally, I have one additional tongue-in-cheek prediction. I predict that Hilary Clinton will win the 2016 presidential election in a close race against ______________. That one I won’t predict. I just hope that the circus ends soon and a leader emerges, but I’m not counting on it.
Warren Buffet is credited with saying, “In the business world, the rearview mirror is always clearer than the windshield.” He got that right. There is nothing serious about this annual exercise and, of course, there is no way to accurately predict the future. It is done for fun, nothing else.
