UK and EA consumers are still borrowing, despite higher rates
The key chart
Quarterly flows in UK and EA consumer credit (multiple of pre-pandemic flows) (Source: BoE; ECB; CMMP)
The key message
The Bank of England and ECB both argue that, (1) the best way they can make sure inflation comes down and stays down is to raise rates, and (2) that higher rates make it more expensive to borrow and hence people will spend less on goods on services.
Great in theory, but consumer credit flows have remained surprisingly strong during 3Q23 and in September 2023 when monthly flows in both regions were 1.2x their average pre-pandemic levels.
While unprecedented increases in the cost of borrowing have resulted in a very sharp slowdown in overall financing flows to the UK and EA private sectors, consumers in both regions are “still bashing the plastic”.
Bad news for investment and real estate, perhaps, but better news for consumer goods and services (at least for now).
And yet
“Higher interest rates make it more expensive for people to borrow money and encourages them to save. That means that, overall, they will tend to spend less. If people on the whole spend less on goods and services, prices will tend to rise more slowly. That lowers the rate of inflation”
Bank of England, 2 November 2023
UK consumer credit flows
UK consumer credit flows totalled £4.4bn in 3Q23, up from £4.3bn in the 2Q33, but down from £4.5bn in 1Q23 (see key chart above). Consumer credit flows in the past three quarters have been 1.2x their average pre-pandemic level of £3.6bn.
Trends in UK monthly consumer credit flows (Source: BoE; CMMP)
Monthly consumer credit flows during the 3Q23 were £1.3bn in July, £1.7bn in August, and £1.4bn in September. These resilient flows were 1.1x, 1.4x and 1.2x the average monthly pre-pandemic flow of £1.2bn (see chart above).
EA consumer credit flows
EA consumer credit flows totalled €9.3bn in 3Q23, up from €3.4bn in 2Q23 and €4.2bn in 1Q23. Consumer credit demand, which had been supressed since the pandemic, almost recovered to its pre-pandemic average level of €10.3bn.
Trends in EA monthly consumer credit flows (Source: ECB; CMMP)
Monthly consumer credit flows during the 3Q23 were €2.5bnbn in July, £3.0bn in August, and £3.9bn in September. These flows were 0.7x, 0.9x and 1.2x the average monthly pre-pandemic flow of €3.4bn (see chart above).
Conclusion
While unprecedented increases in the cost of borrowing have resulted in a very sharp slowdown in overall financing flows to the UK and EA private sectors, consumers in both regions are “still bashing the plastic”.
Bad news for investment and real estate, perhaps, but better news for on-going demand for goods and services.
Please note that the summary comments and charts above are abstracts from more detailed analysis that is available separately.
(Some) things may not be getting worse, but significant financing challenges remain
The key chart
Trends in net lending flows to UK SMEs (Source: BoE; CMMP)
The key message
There was little for UK SMEs to cheer in the latest “Money and Credit” data release from the Bank of England. The only positives for this systemically important economic sector were: (1) monthly negative financing flow dynamics did not get worse; and (2) the average cost of borrowing fell slightly.
SMEs have been repaying bank loans and overdrafts since October 2022. In September 2023, net repayments totalled -£284m, less than -£747m in August and -£1,184m in July
Cumulative flows in the twelve months to September 2023 increased to -£9.9bn from -£9.2bn and -£8.8bn in August and July respectively, however
Note that lending to real estate activities (that involve buying, selling and renting of own or leased real estate) is the only sub-sector to experience positive 12-month cumulative lending flows (£0.3bn in September 2023). With monthly repayments in four of the past six months, these cumulative flows are slowing sharply now, reflecting wider challenges for the sector
The average cost of borrowing for SMEs fell slightly from 7.65% in August to 7.59% in September 2023. Nonetheless, the 514bp increase in the cost of borrowing since the Bank of England began tightening is still larger than for all corporates (460bp to 6.63%), secured HH borrowing (343bp to 5.01%) an unsecured HH borrowing (246bp to 8.73%).
In short, and to repeat recent messages, UK SMEs continue to face significant systemic and cyclical financing challenges that limit their ability to invest fully in growth, job creation and innovation. Are the UK government and the Bank of England watching carefully enough…?
Little to cheer for UK SMEs
Trends in net lending flows to UK SMEs (Source: BoE; CMMP)
SMEs have been repaying bank loans and overdrafts since October 2022. In September 2023, net repayments totalled -£284m, compared with -£747m in August 2023 and -£1,184m in July 2023 (see columns in chart above).
Cumulative flows in the twelve months to September 2023 increased to -£9.9bn from -£9.2bn and -£8.8bn in August 2023 and July 2023 respectively (see dotted line in chart above).
Trends in net lending flows to key RE sub-sector (Source: BoE; CMMP)
Dynamics in the two sectors that have the largest market shares of total loans – real estate (41% share) and trade (9% share) – matched the overall sector dynamics (unsurprisingly given their size).
Note however that real estate comprises two subsectors: the first and largest involves buying, selling and renting of own or leased real estate; the second (much smaller) involves real estate activities on a fee or contractual basis.
The former is the only sub-sector within SME lending to experience positive 12-month cumulative lending flows (£0.3bn in September 2023). With monthly repayments in four of the past six months, these cumulative flows are slowing sharply now reflecting wider challenges for the UK real estate sector (see chart above).
Trend in the average cost of borrowing for UK SMEs (Source: BoE; CMMP)
The average cost of borrowing for SMEs fell slightly from 7.65% in August 2023 to 7.59% in September 2023 (see chart above). Nonetheless, the 508bp increase in the cost of borrowing since the Bank of England began tightening is still larger than the average costs of borrowing for all corporates (460bp to 6.63%), secured HH borrowing (343bp to 5.01%) an unsecured HH borrowing (246bp to 8.73%).
Changes in the cost of borrowing since BoE tightening began by sector (Source: BoE; CMMP)
Conclusion
To repeat last month’s message – SME’s access to finance is systemically important to the UK economy. Broad-based weakness in lending across all SME sectors or industry groups is concerning, therefore. It supports the hypothesis that SMEs are putting both investment and business development on hold.
In short, current financing conditions are limiting SMEs’ ability to invest fully in growth, job creation and innovation. Are the UK government and the Bank of England watching carefully enough…?
Please note that the summary comments and charts above are abstracts from more detailed analysis that is available separately.
Financing flows to the UK private sector slowing very sharply
The key chart
Trends in cumulative financing flows to the UK private sector (12-months, £bn) (Source: BoE; CMMP)
The key message
The latest “Money and Credit – September 2023” data release from the Bank of England (BoE) confirms the sharp slowdown in financing flows to the UK private sector. This story is not unique to the euro area.
Cumulative monthly financing flows fell from £98bn in the 12 months to September 2022 to net repayments of £64bn in the twelve months to August 2023 (see key chart above). This data includes volatile flows to non-intermediating financial companies (the green columns). Excluding these, financing flows to corporates (PNFCs) and HHs fell from £64bn to £11bn over the period.
The average cost of borrowing for PNFCs has increased 460bp from 2.03% in December 2021 (when BoE rate increases began) to 6.63% in September 2023. In response, PNFCs have repaid loans in six of the past twelve months and cumulative 12-month financing flows have been negative for the past nine months. Behind the headlines, UK SMEs also face the extra “dual challenge” of lower lending volumes (negative YoY growth since August 2021) and even higher borrowing costs (7.59% average, up 508bp since December 2012).
The average costs of secured and other HH lending have increased by 343bp (from 1.58% to 5.01%) and 246bp (from 6.27% to 8.73%) respectively over the same time-period. HHs have repaid loans in three of the past six months and cumulative 12-month financing flows have declined from £60bn in the 12 months to September 2022 to £17bn in the twelve months to August 2023.
So what?
As noted in previous posts, the BoE and the ECB both lack playbooks for such aggressive periods of monetary tightening. Financing flows to the UK and EA private sectors are falling sharply and reaching a potential “choke point” for growth and much-needed investment.
Central bankers may argue that this suggests that the transmission of monetary policy is working. Others might view such as rapid pace of adjustment as an indicator that the risks of policy errors and risks to future growth are rising very sharply…
Tightening the UK choke hold further
The latest “Money and Credit – September 2023” data release from the Bank of England (BoE) confirms the sharp slowdown in financing flows to the UK private sector. This story is not unique to the euro area.
The collapse in cumulative 12-month financial flows to the UK private sector (12 months to September, £bn) (Source: BoE; CMMP)
Cumulative monthly financing flows fell from £98bn in the 12 months to September 2022 to net repayments of £64bn in the twelve months to August 2023 (see chart above). This data includes volatile flows to non-intermediating financial companies. Excluding these, financing flows to corporates (PNFCs) and HHs fell from £64bn to £11bn over the period.
Trends in the average cost of new loans to UK PNFCs (%) since September 2018 (Source: BoE; CMMP)
In response to the 460bp increase in the average cost of borrowing from 2.03% in December 2021 (when the BoE rate increases began, see chart above) to 6.63% in August 2023, PNFCs have repaid loans in six of the past twelve months.
Despite three consecutive months of positive flows to PNFCs between July and September 2023, cumulative 12-month financing flows have been negative for the past nine months. In the 12 months to September 2023, PNFCs repaid £5.6bn in loans (see chart below).
Trends in financing flows (£bn) to UK PNFCs (monthly LHS, cum 12 months RHS) (Source: BoE; CMMP)
Note also that, behind the headlines, the average interest rate on new loans to SMEs has increased by 508bp from 2.51% in December 2021 to 7.59% in September 2023.
Trends in growth rates (% YoY) in corporate loans since September 2018 (Source: BoE; CMMP)
The annual YoY growth rate in lending to SMEs has been negative since August 2021 (see chart above). In short, SMEs face the dual challenge of lower lending volumes and higher borrowing costs (see the “How can UK SMEs invest in growth and job creation…” series).
Trends in the average cost of new loans to UK HHs (%) since September 2018 (Source: BoE; CMMP)
In response to a 343bp increase in the average cost of new secured HH lending (the largest segment of HH borrowing) and 246bp in the average cost of other HH lending (see chart above), HHs have repaid loans in three of the past six months. Cumulative financing flows have fallen from £60bn in September 2022 to £17bn in September 2023 (see chart below).
Trends in financing flows (£bn) to UK HHs (monthly LHS, cum 12 months RHS) (Source: BoE; CMMP)
Conclusion
The BoE and the ECB lack playbooks for such aggressive periods of monetary tightening. Financing flows to the UK and EA private sectors are falling sharply and reaching a potential “choke point” for growth and much-needed investment.
Central bankers may argue that this suggests that the transmission of monetary policy is working. Others might view such as rapid pace of adjustment as an indicator that the risks of policy errors and risks to future growth are rising very sharply…
Please note that the summary comments and charts above are abstracts from more detailed analysis that is available separately.
The BoE and ECB face different challenges from divergent consumer credit trends
The key chart
UK and EA consumer credit flows expressed as a multiple of pre-pandemic average flows (Source: BoE; ECB; CMMP)
The key message
The Bank of England (BoE) and the ECB face different balancing acts. Both have achieved success in deflating their respective mortgage markets and slowing growth in less-productive FIRE-based lending. Divergent trends in consumer credit demand point to different challenges, however, in terms of balancing household (HH) consumption and inflation (BoE) and HH consumption and growth (ECB).
Increased borrowing is one way that HHs can offset the pressures of falling real incomes. Monthly consumer credit flows in the UK dipped slightly in February 2023 from January’s recent high, but remain 1.2x their pre-pandemic level. In contrast, monthly consumer credit flows in the EA remain well below (0.6x) their respective pre-pandemic level.
Higher interest rates are supposed to deter borrowing and hence reduce aggregate demand and inflation. Resilient UK consumer credit demand suggests that the risks to the BoE’s balancing act lie towards inflation that is more persistent. In contrast, subdued EA consumer credit demand suggests that the risks to the ECB’s balancing act lie towards weaker growth/recession. Neither are easy to manage…
Different balancing acts – the details
UK consumer credit flows
The monthly flow of UK consumer credit decreased to £1.4bn in February 2023, down from the recent high of £1.7bn in January 2023 but above December 2022’s monthly flow of £0.8bn. February’s monthly flow was 1.2x the pre-pandemic flow of £1.2bn. The 3m MVA of UK consumer credit flows remained at £1.3bn, 1.1x the pre-pandemic flow (see chart below).
Trends in UK monthly consumer credit flows (Source: BoE; CMMP)
EA consumer credit flows
The monthly flow of EA consumer credit rebounded to €1.9bn in February, but remained only 0.55x the pre-pandemic average flow of €3.4bn. The 3m MVA flow fell to €1.1bn, from €1.2bn in January, 0.33x the pre-pandemic average flow. They key point here is that, in contrast to trends observed in the UK (and the US), consumer credit flows have failed to recover to their pre-pandemic levels (see chart below).
Trends in EA monthly consumer credit flows (Source: ECB; CMMP)
Conclusion
Trends in consumer credit demand matter because increased borrowing is one way that UK and EA HHs can offset the pressures from falling disposable incomes (along with reduced savings). Consumer credit is also the second most important element of productive COCO-based lending, after corporate debt. It supports productive enterprise since it drives demand for goods and services, hence helping corporates to generate sales, profits and wages.
Higher interest rates are supposed to deter borrowing and hence reduce aggregate demand. Resilient UK consumer credit demand suggests that the risks to the BoE’s balancing act lie towards inflation that is more persistent. In contrast, subdued EA consumer credit demand suggests that the risks to the ECB’s balancing act lie towards weaker growth/recession. Neither are easy…
Please note that the summary comments and charts above are abstracts from more detailed analysis that is available separately.
UK household card spending by type in relation to pre-pandemic levels (Source: ONS; CMMP)
The key message
The message from the UK money sector remains one of resilient consumer spending, despite rising inflation and falling real incomes. UK households are reallocating their spending towards getting to work and staple items at the expense of spending on delayable goods and socialising, rather than reducing spending entirely. This matters because household spending accounts for 60p in every pound of UK output. The recent recovery in spending on delayable goods since mid-August is also a positive sign, although this key indicator of excess savings returning to the economy remains below pre-pandemic levels.
Re-allocating rather than reducing
In recent presentations on the outlook for UK and euro area household dynamics and consumer credit, I noted that households typically either reduce their spending and/or reallocate their spending in the face of rising energy prices. The latest ONS data on card payments suggests that UK households are still “re-allocating rather than reducing”. In other words, inflation and falling real incomes are affecting spending patterns more than overall spending levels, at least so far…
Change (ppt) in card spending by type since 31 December 2021 (Source: ONS; CMMP)
Aggregate spending in the seven days to 1 September 2022 was the same as pre-pandemic levels (see key chart above) and 22ppt higher than at the end of December 2021 (see chart immediately above).
Spending across all categories – delayable, social, staple and work-related goods – has risen YTD most notably, if not unexpectedly, in the case of work-related spending.
Work related spending is currently 38ppt above pre-pandemic levels reflecting the impact of rising fuel prices. In contrast both spending on delayable goods such as clothing and furniture and on socialising remain below pre-pandemic levels.
Trends in work-related spending and spending on delayables in relation to pre-pandemic levels (Source: ONS; CMMP)
Please note that the summary comments and chart above are extracts from more detailed analysis that is available separately.
Inflation also distorts the 2Q22 message from the UK money sector
The key chart
Nominal and real growth rates in UK M4Lex (Source: BoE; CMMP)
The key message
In my previous post, I explained how rising inflation distorts the 2Q22 messages from the euro area’s (EAs) money sector significantly. The same is true for the UK too.
Ignore inflation and the messages from the UK’s money sector are broadly positive for the economic outlook. The three key signals from the UK money sector that I have been following consistently since early 2021 are all sending broadly positive messages – UK HHs have stopped hoarding money, they are borrowing more to fund consumption, and money and credit cycles are re-synching. Growth rates in COCO-based consumer credit and NFC lending are also rising in the UK while the growth in FIRE-based mortgage lending is slowing. Does this sound familiar?
Rising inflation is over-taking these positive trends, however. Lending to private sector companies and households (M4Lex) is falling sharply in real terms (-6.5% YoY). Trends in real HH credit and real NFC credit are slowing sharply and in a coordinated fashion. This matters because these factors typically display coincident and lagging relationships with real GDP.
As in the EA, plenty of information for optimists and pessimists to debate here but with increasing ammunition for the pessimists…
Accounting for inflation – part 2
In the previous post, I explained how rising inflation distorts the 2Q22 messages from the euro area’s (EAs) money sector significantly. The same is true for the UK too.
The good news
Ignore inflation and the messages from the UK’s money sector are broadly positive for the economic outlook.
Trends in monthly HH money flows (Source: BoE; CMMP)
Monthly HH money flows have moderated slowly, reflecting lower levels of uncertainty. The monthly flow fell from £5.2bn in May 2022 to £1.5bn in June 2022. This is well below the average pre-pandemic flows of £4.6bn and the peak flow of £26bn recorded in May 2020 when HH uncertainty levels peaked at the height of the pandemic crisis (see chart above).
Quarterly trends in HH money flows (Source: ECB; CMMP)
The quarterly HH money flow in 2Q22 was £12.2bn (see chart above). This compares with the average pre-pandemic flows of £11.7bn. The message here is the same – HHs in the UK are no longer hoarding cash in the form of bank deposits. This is reflected, in turn, in the slowdown in broad money growth (see below).
Trends in monthly consumer credit flows (Source: ECB; CMMP)
The demand for credit has recovered. Monthly consumer credit flows rose to £1.8bn in June 2022 from £0.9bn in May 2022, well above the pre-pandemic average flows of £1bn. The YoY growth rate of 6.5% was the highest rate of growth since May 2019. Within this, the annual growth rate of credit card borrowing was 12.5% while other forms of consumer credit grew 4.1%. These were the highest rates of growth since November 2005 and March 2020 respectively.
Quarterly trends in consumer credit (Source: BoE; CMMP)
The quarterly flow of consumer credit rose from £3.1bn in 4Q21 and £3.6bn in 1Q21 to £4.2bn in 2Q22 (see chart above). The 2Q22 flow was the largest quarterly flow since 2Q18 and was above the pre-pandemic average of £3.6bn. There have now been five consecutive quarters of positive consumer credit flows, with current flows in-line or slightly above pre-pandemic levels.
Growth trends in broad money (M4ex) and lending (M4Lex) (Source: BoE; CMMP)
After the recent and unprecedented de-synchronisation of money and credit cycles, growth rates in UK money supply and private sector credit are converging (see chart above). The YoY growth rate in money (M4ex) slowed from 5.4% in May 2022 to 4.4% in June 2022. At the same time, the YoY growth rate in lending (M4Lex) fell from 3.9% to 2.3%. While the gap between the two growth rates widened slightly from 1.5ppt to 2.1ppt, it has narrowed considerably from its peak of 11.5ppt in February 2021.
Growth trends in mortgages, consumer credit and NFC lending (Source: BoE; CMMP)
Growth rates in COCO-based consumer credit and NFC lending are rising in the UK while the growth in FIRE-based mortgage lending is slowing (see chart above).
As described above, consumer credit is growing at the fastest rate since May 2019. NFC lending has also recovered to 2.0% YoY, marking five consecutive months of positive YoY growth.
Of course, mortgages remain the largest segment of UK private sector credit (89% of total HH credit and 61% of total PSC). The relative stability of mortgage demand has been a key feature of the messages from the UM money sector for some time. However, net borrowing of mortgage debt decreased from £8.0bn in May 2022 to £5.3bn in June 2022. The YoY growth rate also declined from 4.6% in May 2022 to 3.8% in June 2022, the slowest rate of growth since February 2021. Approvals for house purchases, an indicator of future borrowing, decreased to 63.700 in June 2022 from 65,700 in May. This is below the pre-pandemic average of 66,700.
The bad news
Nominal and real growth rates in UK M4Lex (Source: BoE; CMMP)
Take inflation into account and the messages are very different, however. Lending to private sector companies and HHs (M4Lex) slowed from 3.9% YoY in May 2022 to 2.3% YoY in June 2022 (see chart above). In real terms, M4Lex fell -6.5% YoY in June 2020, with all forms of lending declining in real terms.
Growth trends (real terms) in HH and NFC credit (Source: BoE; CMMP)
Furthermore, trends in real HH credit and real NFC credit are slowing sharply in a coordinated manner. This matters because these factors typically display coincident and lagging relationships with real GDP over time (see “Look beyond the yield curve” for more details).
Conclusion
The three key signals from the UK money sector that we have been following consistently since early 2021 are all sending broadly positive messages – UK HHs have stopped hoarding money, they are borrowing more to fund consumption, and money and credit cycles are re-synching. Growth rates in COCO-based consumer credit and NFC lending are also rising in the UK while the growth in FIRE-based mortgage lending is slowing.
Rising inflation is over-taking these positive trends, however. Lending to private sector companies and households (M4Lex) is falling sharply in real terms (-6.5% YoY) and traditional coincident and lagging monetary indicators have turned down sharply and in a coordinated fashion. Plenty of ammunition here for pessimists.
The format and presentation of this post mirrors that of the previous post deliberately. Why? Because the messages from the UK and EA money sectors have been very similar during the pandemic. The next post will compare and contrast these trends more closely.
Please note that the summary comments and charts above are extracts from more detailed analysis that is available separately.
Resilient demand masks tough times for UK mortgage providers
The key chart
Resilient mortgage demand masks tough times for UK mortgage providers (% YoY) (Source: Bank of England; CMMP analysis)
The key message
The relative stability/resilience of mortgage markets in the UK (and in the euro area) has been a consistent theme in the “messages from the money sector” during the COVID-19 pandemic.
UK mortgages grew 2.9% YoY in August, unchanged from July, and monthly flows have been steadily increasing from their April 2020 lows. This recovery has also been the main driver in the rebound in overall household borrowing, with mortgages accounting for £3.1bn in August’s £3.4bn increase in total lending to individuals. Looking forward, the number of mortgage approvals for house purchases also increased sharply in August to 84,700, the highest number since October 2007.
So far, so good – but there is always a “but”…
Current mortgage demand is very subdued in relation to past cycles despite the low cost of borrowing. One factor here is that, despite the deleveraging seen since 1Q10, the UK household debt-to-HDP ratio remains at 85%, the threshold level above with the BIS believes that debt becomes a drag on future growth. Unsurprisingly, the CAGR in HH debt (primarily mortgages) has trended between only +/- 1% nominal GDP growth since early 2016 – not much of a “growth story” here.
More concerning for mortgage providers, the effective rates on new and outstanding mortgages have fallen 28bp and 32bp respectively over the past 12 months to new lows of 2.14% and 1.72% respectively. The gap between the rate on outstanding and new mortgages was 38bp in August, indicating further downward pressure on net interest margins and income.
With subdued growth and further NIM compression ahead, mortgage providers will need to embrace digitalisation to deliver effective market segmentation/client knowledge, alternative revenue sources, further efficiency gains and more effective liquidity and risk management.
Seven charts that matter
The relative stability/resilience of mortgage markets in the UK (and euro area) has been a consistent theme in the “messages from the money sector” during the Covid-19 pandemic. Outstanding mortgage balances grew 2.9% YoY in August, unchanged from July but slightly below the 3.1% growth recorded in June. In contrast, the growth in consumer credit hit a historic low (-3.9% YoY) while corporate lending grew 9.7% YoY (see key chart above).
Monthly flows have recovered steadily since their April 2020 lows (Source: Bank of England; CMMP analysis)
The recovery in monthly HH borrowing flows since April’s lows (see chart above) has been the key driver in the recovery in overall household lending (see chart below). In August, for example, mortgages accounted for £3.1bn out of a total £3.4bn monthly flow.
Mortgages are driving the recovery in household lending (Source: Bank of England; CMMP analysis)Approvals suggest positive momentum (Source: Bank of England; CMMP analysis)
Looking forward, the number of mortgage approvals for house purchases also increased sharply in August to 84,700, the highest number since October 2007. This partially offsets the March-June weakness – there have been 418,000 approvals YTD, compared with 524,000 in the same period in 2019.
So far, so good – but there is always a “but”…
Current demand is very subdued in relation to past cycles in nominal and real terms (Source: Bank of England; CMMP analysis)
Current mortgage demand is very subdued in relation to past cycles (see chart above), despite the low cost of borrowing. One factor here is that, despite the deleveraging seen since 1Q10, the UK household debt-to-HDP ratio remains at 85%, the threshold level above with the BIS believes that debt becomes a drag on future growth (see chart below).
HH debt ratios remain elevated at the BIS threshold level (Source: BIS; CMMP analysis)
Unsurprisingly, the CAGR in HH debt (primarily mortgages) has trended +/- 1% nominal GDP growth since early 2016. The chart below comes from CMMP Relative Growth Factor (RGF) analysis, which considers the rate of growth in debt in relation to GDP on a three-year compound growth basis with the level of debt expressed as a percentage of GDP. This graph illustrates the UK HH RGF on a rolling basis. There is little to get excited about in this chart.
An unexciting “relative growth” story – rolling 3-year CAGR in HH debt versus rolling 3-year CAGR in nominal GDP (Source: BIS; CMMP analysis)
More concerning for mortgage providers, the effective rates on new and outstanding mortgages have fallen 28bp and 32bp respectively over the past 12 months to new low of 2.14% and 1.72% respectively. The gap between the rate on outstanding and new mortgages was 38bp in August, indicating further downward pressure on net interest margins and income.
The challenge of delivering top-line growth (Source: Bank of England; CMMP analysis)
Conclusion
With subdued growth and further NIM compression ahead, mortgage providers will need to embrace digitalisation to deliver effective market segmentation/client knowledge, alternative revenue sources, further efficiency gains and more effective liquidity and risk management.
Please note that the summary comments and charts above are abstracts from more detailed analysis that is available separately.
How do the messages from the money sectors compare?
The key chart
Broad money growth is accelerating in both regions, but how do the messages behind these trends compare and what do they mean? (Source: ECB; Bank of England; CMMP analysis)
The key message
Broad money growth is accelerating in both the euro area (EA) and the UK but how do the messages behind these trends compare and what do they mean for investors?
M1 dynamics are the key growth drivers here as EA and UK households and corporates maintain high preferences for holding liquid assets despite negative real returns. Above trend corporate credit and resilient mortgage demand is offsetting weakness in consumer credit in both regions but with more volatile YoY credit dynamics in the UK. The growth gap between the supply of money and the demand for credit has reached new 10-year highs.
The overriding message here is one of uncertainty and deficient credit demand, a more nuanced message than some inflation hawks suggest.
Looking at ST dynamics, uncertainty peaked in May in both regions, HHs have stopped repaying consumer credit and the NFC “dash-for-cash” has also peaked.
From an investment perspective, 2020 is seen best as a year when an extreme event (Covid-19) engulfed weak, pre-existing cyclical trends. The negative impacts of this event have peaked, at least from a monetary perspective. However, adverse (over-arching) LT structural dynamics that have their roots in excess levels of private sector debt remain with negative implications for money, credit and business cycles and future investment returns.
The charts that matter
The key chart above illustrates how growth in broad money (M3) is accelerating in both the EA and UK. In the EA, M3 grew 10.2% in nominal and 9.8% terms YoY in July, the highest rates of growth since May 2008 and July 2007 respectively. In the UK, M3 grew 11.9% in nominal and 10.8% in real terms in July, the highest rates of growth since April 2008 and June 2008 respectively (n.b. I am using M3 here for comparison purposes rather than the Bank of England’s preferred M4ex measure referred to in other posts). These trends have helped to ignite the “inflation versus deflation” debate which, in turn, requires investigation of trends in the components and counterparts of broad money growth.
M1 is playing an increasing role in M3 in the EA and the UK despite negative real returns from overnight deposits (Source: ECB; Bank of England; CMMP analysis)
From a components perspective, narrow money (M1) is playing an increasing role in this growth despite negative real returns as EA and UK households (HHs) and corporates (NFCs) maintain high preferences for liquid assets. In the EA, M1 now accounts for 70% of M3 compared with only 42% twenty years ago. In the UK, M1 now accounts for 65% of M3 versus only 48% twenty years ago (see chart above). In both cases, the share of narrow money in broad money is at a historic high – potentially negative news for inflation hawks as HH and NFCs continue to save in the face of high uncertainty levels. The key unknown here is the extent to which these savings are forced or precautionary. Forced savings can be released relatively quickly to support economic activity. In contrast, precautionary savings are unlikely to move straight into investment or consumption.
Similar NFC, mortgage and consumer credit trends but with more volatile YoY growth dynamics in the UK (Source: ECB; Bank of England; CMMP analysis)
From a counterparts perspective, above trend NFC credit and resilient HH mortgage demand is offsetting weakness in consumer credit, with the UK demonstrating more volatile YoY growth dynamics than the EA. The graph above illustrates YoY growth trends in NFC credit (green), mortgages (blue) and consumer credit (red) for the EA (dotted lines) and the UK (full lines) over the past 5 years.
NFC credit is growing well above trend in both regions, but below May’s recent peak levels. In the EA, NFC credit grew 7.0% in July versus 7.3% in May. In the UK, NFC credit grew 9.6% in July versus 11.2% in May. Mortgage demand has remained resilient in both regions growing 4.2% in the EA and 2.9% in the UK. Weakness in consumer credit appears to be stabilising (see monthly trends below). In the EA consumer credit grew 0.2% in July unchanged from June, but still a new low YoY growth rate. In the UK, consumer credit declined -3.6% YoY compared with a decline of -3.7% in June.
Counterparts versus components – new peak gaps in the growth of private sector credit and money supply (Source: ECB; Bank of England; CMMP analysis)
Diverging trends between the components and counterparts of broad money tell an important story – the gap between the growth in money supply and the growth in credit demand is at new 10-year peak levels. In the EA, the gap between M3 growth (10.2%) and adjusted loans to the PSC growth (4.7%) was 5.5ppt (or minus 5.5ppt in the graph above). This is a 10-year peak and the largest gap since 2001 (not shown above). In the UK, the gap between M4ex growth (12.4%) and M4Lex (5.5%) was 6.9ppt, again a new 10-year peak. In “normal cycles”, money supply and the demand for credit would move together but current trends are indicative of a basic deficiency in credit demand and a second potentially negative piece of news for inflation hawks.
Uncertainty proxies for EA HHs and NFCs (Source: ECB; CMMP analysis)
Looking at ST dynamics, “uncertainty” appears to have peaked at the same time (May 2020) in both the EA and the UK but remains very elevated against historic trends. In this context, trends in monthly flows into liquid assets offering negative real returns are used a proxy measure for uncertainty. In July, deposits placed by EA HHs totalled €53bn, below April 2020’s peak of €80bn but still above the 2019 average monthly flow of €33bn. NFC deposits increased by €59bn in July. Again this was below May 2020’s peak flows of €112bn but still well above the 2019 average monthly flow of €13bn (see chart above).
Uncertainty proxies for UK HHs and NFCs (Source: Bank of England; CMMP analysis)
In the UK, HH deposit flows totalled £7bn in July, down from the May 2020 peak of £27bn but above the 2019 monthly average flow of £5bn. NFCs deposits in July rose from £8bn in June to £ 12bn in July. These were also below the May 2020 peak of £26bn but well above the £0.8bn 2019 average (see chart above).
Monthly consumer credit flows in the EA (Source: ECB; CMMP analysis)
HHs have stopped repaying consumer credit and monthly flows have bounced back to just below (EA) or just above (UK) 2019 monthly average. In July, EA consumer credit totalled €3.2bn and €3bn in June and July respectively. This followed repayments of €-12bn, €-14bn and €-2bn in March, April and May respectively. The last two months’ positive monthly flows compare with the 2019 average of €3.4bn.
Monthly consumer credit flows in the UK (Source: Bank of England; CMMP analysis)
After four consecutive months of net repayments, UK consumer credit turned positive in July. The £1.2bn borrowed in July was above the average £1.2bn recorded in 2019. As noted above, the recent weakness in consumer credit means that the average growth rate (-3.6% YoY) is still the weakest since the series began in 1994.
Conclusion
In “August snippets – Part 1”, I highlighted the importance of disciplined investment frameworks and followed this in “August snippets – Part 2” by revisiting the foundations of my CMMP Analysis framework that incorporates three different time perspectives into a single investment thesis. How do July’s trends fit into this framework?
The overriding message here is one of uncertainty and deficient credit demand, a more nuanced message than some inflation hawks suggest. Looking at ST dynamics, uncertainty peaked in May in both regions, HHs have stopped repaying consumer credit and the NFC “dash-for-cash” has also peaked. From an investment perspective, 2020 is seen best as a year when an extreme event (Covid-19) engulfed weak, pre-existing cyclical trends. The negative impacts of this event have peaked, at least from a monetary perspective. However, the negative (over-arching) LT structural dynamics that have their roots in excess levels of private sector debt remain with negative implications for money, credit and business cycles and future investment returns.
If you go down to the woods today…
Please note that summary comments and graphs above are extracts from more detailed analysis that is available separately
What uncertainty looks like – putting 2020 money holding trends into context Source: Bank of England; CMMP analysis
The key message
The 2Q20 message from the UK money sector is very similar to the corresponding euro area version.
Headline data points suggest little change to the existing narrative. Households (HHs) and corporates (NFCs) continue to increase their money holdings, with rolling 3m inflows for the past four months since March exceeding the total inflows recorded for the whole of 2019. High levels of uncertainty still prevail. Above trend NFC borrowing and a recovery in HH mortgage demand offset the weakest YoY trends in consumer credit (-3.6% YoY) since 1994.
Again, analysis of monthly flows presents a more nuanced picture. Flows into sterling money holdings peaked back in March 2020, but remain more than double 2019 average monthly flows. The message for UK consumption is “less negative” – HHs repaid only £86m compared with a record £7bn in April. For context, this compares with average new monthly consumer borrowing of over £1bn per month in 2019. NFCs remain active borrowers from banks and financial markets, with June’s £11bn of borrowing driven mainly by capital market issuance. Bank lending to NFCs saw divergent trends. Large corporates repaid record amounts, but SMEs borrowed an additional £10bn. The annual growth rate in SME lending hit an all-time high, reflecting the impact of government support schemes.
In short, uncertainty in the UK has also peaked but remains very elevated, still.
Six charts that matter
HHs and NFCs continue to increase their sterling money holdings strongly Source: Bank of England; CMMP analysis
In-line with developments in the euro area (EA), the headlines from the Bank of England’s money supply data for June 2020 also suggest little change to the on-going “message from the money sector” narrative.
The UK’s headline money series (M4ex) grew 11.9% YoY compared with the monthly average of 2.9% in 2019. HH money holdings (64% total) increased 7.5%, NFC money holdings (23% total) increased by 23.2% (YoY), and the volatile but smaller non-intermediating financing company (NIOFC) holdings (15% of total) increased by 17.7%.
The key chart above places these trends into context. Money holdings increased by £82bn in total during 2019, at an average of just under £7bn per month. The rolling 3m sums of money holdings for the past four months – March ($86bn), April (£113bn), May (£159bn) and June (£109bn) – all exceed the 2019 annual increase. This is what uncertainty looks like!
“Euro area trends on steroids” – above trend NFC credit and resilient HH mortgage demand offset weakness in HH consumer credit Source: Bank of England; CMMP analysis
Looking at the counterparts to money holdings, again the story is similar to the EA version but with more exaggerated trends. NFC lending grew 9.2% YoY, down from 11.2% in May, but above trend. Mortgage demand grew 3.0% YoY, resilient but slightly below the 2019 average growth of 3.3%. However, HH consumer credit fell by -3.6% YoY, the weakest growth rate recorded since this series began in 1994. No real surprises here (at least in terms of trends).
Have uncertainty levels peaked, and if so, when? Monthly flows of sterling money holdings Source: Bank of England; CMMP analysis
Continuing the parallels with the EA message, the monthly flow data presents a more nuanced picture than the headline data suggests. Monthly flows into sterling money holdings peaked at £67bn in March, almost 10x the 2019 monthly average flow. They fell back to £16bn in June, but this is still 2.3x the 2019 average monthly flow. The more volatile NIOFC flows peaked in March, but HH and NFC monthly flows did not peak until May (both at £26bn before falling to £12bn and £8bn in June respectively). Note that these large inflows are occurring despite negative real returns. The effective interest rates on new HH time (0.73%) and sight (0.26%) hit new lows having fallen 31bp and 20bp since February 2020 respectively. The effective interest rates on NFC time (0.17%) and sight (0.13%) also fell 10bp in June 2020.
HH lending recovers in June after 2 months of large repayments Source: Bank of England; CMMP analysis
After 2 months of large repayments (£7bn April, £3bn May), HH borrowing increased by almost £2bn in June. As can be seen from the chart above, the recovery in mortgage borrowing was the driver here. Looking ahead, mortgage approvals for house purchase also increased to 40,000 in June, up from the record low of 9,300 in May. However, June’s approvals were still well below February’s pre-Covid level of 73,700.
HHs repaid only £86m of consumer credit in June compared with £4bn, £7bn and £5bn monthly repayments in March, April and May respectively. Positive, or less negative, news for the UK economy, but note that this small repayment contrasts with an average of £1.1bn in new consumer borrowing per month in the 18 months to February 2020 (Bank of England, June 2020).
Divergent trends in NFC borrowing – large corporates vs SMEs Source: Bank of England; CMMP analysis
NFC lending saw divergent large NFC and SME trends. Large NFCs repaid a record £16.7bn in June, following a £13bn repayment in May. Approximately half of these repayments came from public administration and defence. The YoY growth rate for large NFC lending fell to 4.8% (dotted red line above) from 15.5% YoY in April. In “Credit where credit’s due“, I highlighted the important increase in SME borrowing in May (£18bn). In June, SMEs borrowed an additional £10bn well above the previous largest monthly SME borrowing of £0.6bn in September 2016. The YoY growth rate in SME lending hit a new high of 17.7% reflecting, in part, loans arranged through the government support schemes (eg, Bounce Back Loan Scheme).
June’s NFC financing driven by capital market issuance – bonds and equity Source: Bank of England; CMMP analysis
NFCs borrowed almost £11bn from banks and financial markets in June. This was below the £32bn and £16bn borrowed in March and April respectively, but similar to May’s borrowing level. June’s borrowing was driven by capital market issuance – £7bn in bond issuance and almost £4bn raised in equity.
Please note that the summary comments and graphs above are extracts from more detailed analysis that is available separately
Are UK building societies positioned to take advantage?
LT challenges – the key chart
UK households save too little and borrow too much Source: ONS; ECB; CMMP analysis
The key message
The digitalisation of UK mortgage and savings is accelerating but structural and cyclical dynamics are challenging the strategies and profitability levels of building societies and compromising their ability to respond to the associated opportunities and challenges.
Summary of segmentation analysis
Building societies play an important role in UK financial services, helping their 25mn members to finance the purchase/building of their homes and to save.
The 43 societies currently account for 23% of outstanding UK mortgages (£337bn) and 18% of total HH savings (£297bn). The five largest account for c.90% of assets, members and industry profits. The balance sheet, members and annual profits of Nationwide, the UK’s largest building society, exceed the equivalent numbers for the rest of the industry combined.
CMMP analysis segments the industry by balance sheet, membership, infrastructure, P&L and geographic location and identifies four distinct tiers of building society.
It highlights how “the value” of members and branches and profitability drivers vary significantly across, and within, the four tiers and identifies those societies who enjoy neither the economies of scale of the Tier 1 societies nor the superior profitability (and income generation) of the smaller Tier 4 societies.
The Chairman of one society suggested recently, that many peers would be tempted to simply “trade through” the current crisis (supported by adequate capital) but that “they shouldn’t”. CMMP analysis not only supports this view but also provides a foundation for formulating the necessary strategic responses.
Please note that the summary comments above and the charts below are extracts from more detailed analysis that is available separately.
Key charts and slides
Five building societies dominate the market and Nationwide, the largest, has more assets, shares, members and generates more profits than the rest of the industry combined Source: BSA, CMMP analysisChallenges are reflected in divergent growth trends for assets and profits since 2015 (% CAGR) Source: BSA; CMMP analysisEven the more profitable societies are experiencing challenges to their profitability levels Source: BSA; CMMP analysisLarger building societies enjoy economies of scale (Tier 1 blue, Tier 2 red, Tier 3 green) Source: BSA, CMMP analysisSmaller building societies’ profitability levels reflect superior income generation (Tier 4 grey) Source: BSA; CMMP analysis Membership numbers and contribution vary across and within the four tiers Source: BSA; CMMP analysisBranch numbers and efficiency levels also vary across and within the four tiers Source: BSA; CMMP analysisHow sacred are the industry’s sacred cows in a digitalised world? Source: BSA; CMMP analysis
