Covenant Weekly Market Synopsis as of February 3, 2017

February 6, 2017

One of the many adages on Wall Street is that as goes January, so goes the year. If that old saw holds true, then 2017 should be a decent year as developed market equity indices gained between 2% – 3% and emerging markets jumped 5.5% in January. Yields on US Treasuries were relatively stable on the front end and middle portions of the curve (2-year and 10-year maturities), while yields on the back end of the curve (30-year maturity) declined 0.38% as the long-bond sees neither accelerating economic growth nor inflation on the horizon. Precious metals (gold +6.3% / silver +9.7%) outperformed developed market equities, although crude oil prices were essentially flat (WTI Crude closed the month at $53.84/barrel). The US Dollar declined by 2.4% in January, which is a welcome change for US manufacturers and export driven companies. Meanwhile, the VIX Index (a forward looking metric of S&P 500 volatility one month out) declined 22.9% to 10.82 (vs. a post-Crisis average of approx. 18.0), signaling a high level of market calm/investor complacency at month end.

For a detailed view of weekly, month-to-date and year-to-date asset class performance please click here.

 

P2P Lending: The Movement – Attended a conference last week that included the entire ecosystem of Peer-to-Peer lending which goes by several names: P2P, market-based lending, alternative lending, non-bank lending, etc. Across various presentations and panels consisting of representatives from electronic origination platforms, portfolio managers, legal teams, audit firms, and fund administrators, the mood was bright. And why not? The industry is positioned at the favorable nexus of high loan demand and high capital supply. On the demand side, online lending is becoming an accepted, if not preferred, mode for consumers to efficiently gain access to small dollar loans. Billed by one presenter as “Democratization of Access to Capital”, online platforms provide capital where banks can no longer economically do so as a result of regulations and high cost infrastructure. In addition to consumer debt, P2P lending has expanded to include refinancing of student loans, short-term real estate loans, small business loans, and receivables factoring. It is also worth noting that P2P lending is not just a domestic phenomenon, but rather it is a global movement.

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In terms of capital supply, P2P platforms don’t lend their own funds like traditional banks. Rather the P2P platforms serve as a marketplace in which borrowers are underwritten and then matched with investors who purchase the notes. These investors include Ivy League endowments, financial institutions, traditional banks and high-net worth individuals. For the many investors scurrying around the event, financing P2P loans offer a higher yielding (6% – 15%+ per annum) investment alternative to traditional fixed income investments (where yields are near historic lows and a rise in interest rates would eviscerate future returns). Just as the number of platforms has been increasing, so have the access points and investment options for investors which now include direct purchases, investment funds, and securitizations. Demand for loans is so high, that many managers are forced to slow investment inflows as they simply cannot effectively put all of the new money to work.

Traditional banks, for the most part, are not ignoring this trend. After all, they do not want to be “Uberized” a la the taxicab industry (see below). As such, banks are becoming increasingly involved in P2P Lending through one or more of the following strategies:

  1. Buy loans directly from the platforms
  2. Partnering with the platforms (the bank connects borrowers that don’t qualify for a bank loan to marketplace lenders)
  3. White labeling of platforms
  4. Buying equity stakes in P2P lending platforms
  5. Acquiring an online lender

Although P2P Lending has experienced some growing pains, and the loans originated by the various platforms are not without risk, the optimism expressed at the event appears warranted. Indeed, major institutions such as PriceWaterhouseCoopers, The Harvard Business School, Goldman Sachs, and Morgan Stanley have all issued research reports suggesting the global P2P Lending market is set to continue grow at a blistering pace (some estimate as much as 50% growth per annum) both by taking market share from traditional banking institutions and from other specialty finance lenders.

 

Taxi Blues: Just as technology is displacing banks in the supply of credit, Uber and its competitors have done a number on the taxicab industry. This is not new news in a theoretical sense, but the practical impact of on-demand private driving services on traditional taxicabs is unmistakable. In fact, in Capital One Financial Corporation’s (NYSE: COF) recent Q4 quarterly report, their NYC taxi loan program showed that the rate of non-performing loans has increased to more than 50% as taxicab drivers are providing fewer rides and generating less revenue in New York.

 

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Source: ZeroHedge

Commensurate with declining market share, the price of NYC Medallions (which basically give someone the right to operate a yellow cab in NY) is plummeting.  According to Business Insider, the value of medallions has declined from $1.3 million in 2014 to $250,000 – $500,000 in 2016.

 

Weekly Economic Data Summary: At their first meeting of 2017, the Fed elected not to move interest rates higher and gave few clues about what might happen at their next meeting in March. They appear to be taking a patient view of the economy and perhaps waiting to learn more about the Trump Administration’s fiscal stimulus plans. The January ISM Manufacturing Index reached 56.0 (highest since Nov. 2014), while the ISM Non-Manufacturing Index held steady at 56.5 (a reading above 50 implies expansionary conditions). Core inflation (as measured by the Personal Consumption Expenditures Index) remained in the 1.6% – 1.7% range it has been in for the past 12 months (another reason the Fed is in no rush to move rates higher). All-in-all, the January economic data thus far suggests the economy is reasonably stable, but not in a breakout growth mode.

Be well,

Jp.