Is A New Banking Crisis Imminent? Recent Rise In Delinquency Rates Is Shocking

Tyler Durden's picture

Submitted by Olav Dirkmaat via UFM Market Trends,

The delinquency rate on loans is key in understanding banking. It answers one question: what percentage of loans is overdue for payment? The delinquency rate is by far the most useful indicator for “credit stress.” It seems, however, as if delinquency no longer counts. Few are paying attention to the quick and sudden rise of the delinquency rate. What does it tell us and is a new banking crisis imminent?

This Is What Happened after Janet Yellen Hiked the Fed Funds Rate in December

I have said it many times over and I will repeat it here: the last time around, it took Fed-chairman Alan Greenspan over two years and seventeen rate hikes to bring the Fed funds rate from a then all-time-low of 1% to 5.25%, before the U.S. economy suffered the worst recession since the 1930s. We are not so lucky this time.

Greenspan’s rate hikes didn’t affect delinquency rates straight away. Credit stress was subdued until a year after Greenspan’s last hike. Only in the first quarter of 2007, delinquency rates began to move higher. The reason is as clear as the water surrounding the Bahamas: in the years preceding the Great Recession credit growth was mainly focused on the U.S. housing market.

Credit growth was mostly driven by mortgage lending. Mortgages were generously provided by banks, but increasingly to subprime borrowers (subprime referring to their poor credit). Yet these subprime borrowers didn’t pay higher interest rates on their mortgages the moment Alan Greenspan began hiking rates. But as soon as their (promotional) teaser rates resetted, they started “feeling the Alan.” Delinquency rates went through the roof and the U.S. economy into recession.

Teaser rates, the low initial interest rate a borrower pays for the first few years, were responsible for the lag between Greenspan’s rate hikes and the 2008 recession.

More Fragile

Today, the Federal Reserve is ignoring a very inconvenient truth: the global economy is much more fragile than the last time around. And we have no teaser rates in today’s subprime credit (unless we of course consider oil producers that hedged oil prices by buying futures as something akin to “teaser rates”).

This time around, we will certainly not need seventeen rate hikes or three years before pushing the economy into recession.

In fact, we now know what happened after Janet Yellen increased the Fed funds rate with a mere quarter-percentage point: the delinquency rate on commercial and industrial loans increased 50%. That is right. In a single quarter delinquency rates in the U.S. banking sector exploded from 1% to 1.5%. The cycle has turned.

This Is Why Nobody Is Paying Attention

Why is nobody paying attention to this seemingly undeniable shift in the credit cycle? Why does the Federal Open Market Committee (FOMC) not even mention it? Why are the alarm bells not ringing in both Fed board rooms and the financial press?

The only answer to these questions is that the Fed is committing a capital sin. The headline number, the delinquency rate on all loans, decreased in the first quarter of 2016 from 2.20% to 2.17%. That ignores, however, the underlying pressures building up inside banks’ balance sheets. Fed-officials seem to focus on the headline number, while ignoring the deteriorating fundamentals.

With rising home prices, a vibrant housing market, increasing employment and interest rates at the lowest levels in world history, defaults on mortgage and credit card debt are reaching all-time lows. Yet delinquency on mortgages and credit cards tend to lag the business cycle. Typically, they only rise when we already are in recession, just as unemployment tends to be a lagging indicator.


Delinquency Rate: Do Not Focus on the Headline Number

The headline number is fooling Fed-officials; delinquency rates are still declining. But the delinquency rate on all bank loans (the headline number) has no predictive power; it just follows a random pattern. Source: St Louis Fed


Even if we are on the verge of a new banking crisis, the headline number will never tell us so.

Which Loans Are Increasingly Overdue?

If delinquency rates on consumer credit (mortgages and credit card debt) will not help us in estimating how probable a new banking crisis is, then which delinquency rates do matter? And why did I call them “shocking”?

Let’s first break down a bank portfolio. Bank loans can we divided into three groups:

  • Consumers
  • Businesses
  • Real estate (both commercial and residential)

(Just for the sake of comparison, U.S. banks currently hold $1,300 billion in consumer debt, $1,810 billion in commercial and industrial debt, and over $3,000 billion in real estate debt.)

Banks lend money to consumers for buying homes (mortgages) or consumer goods (credit card debt). We concluded that delinquency rates on those loans tend to lag the business cycle.

What’s left?

Loans to businesses, in whatever form or shape they come. Most of these loans are pegged to an interest rate benchmark, for instance the LIBOR. After the Fed’s first rate hike in December, the U.S. dollar 12-month LIBOR went up from approximately 0.8% to 1.3%. Marginal borrowers are slowly getting pushed into bankruptcy.

December’s rate hike clearly resulted in a change of tides: delinquency rates have bottomed and are on their way up. And do not forget the following: the fact that delinquency rates no longer decrease but began to increase, has always been a clear warning signal for a recession — at least during the past twenty years. And over that same period, this indicator never gave a “false positive,” in contrast to many other (recession) indicators.


Delinquency rate on bank loans is skyrocketing in the US

A clear danger sign: delinquency rates on commercial and industrial loans are creeping up. Source: St Louis Fed


The dollar amount of delinquencies is already skyhigh

In dollar terms the shift is even more pronounced. This is of course the result of our staggering debt levels, which are not apparent in the relative numbers. Source: St Louis Fed


Charge-off rates on bank loans are starting to pick up as well

In line with increasing loan delinquencies, charge-off rates on commercial and industrial loans are picking up as well (charge-off rates tend to lag somewhat). Source: St Louis Fed


Delinquency Rates in Europe

The delinquency rate in Europe is also on the rise. Yet, we do have to single out the countries that skew this eurozone average. Italian banks in particular are suffering from an unbelievably high delinquency rate. The delinquency rate in Italy is at such extreme levels that the country might turn the euro crisis in front page news again (if for once Greece remains on the sidelines).


Delinquency rates in the Eurozone have been on the rise too

The delinquency rate on bank loans in Europe is also on the rise; here too, at least in the periphery countries, it appears the credit cycle has turned. Source: European Central Bank (CBD2, ‘gross non-performing debt instruments’)


Keep a Close Eye on Delinquency

What is next? We will have to wait and see to find out what delinquency rates have done in the second quarter. However, it is clear that the tide has turned. It is irrelevant whether the Federal Reserve will hike rates in July or September. Consensus currently says we should expect two more rate hikes this year. If that is true, we can expect delinquency rates to move up further in the coming quarters.

In 2006 it was exactly twelve months after delinquency rates bottomed that the recession began. If the same period applies, we are due for a recession. In the first quarter of the Great Recession in 2008, delinquency rates were only 1.45%. We are already above that level. On the flipside, however, we should not ignore that it took three years of rising delinquency rates before the economy entered into recession in 2001. Credit cycles are not an exact science. Yet the trend is clear and Fed chair Janet Yellen should be terrified about this disturbing development.

The fact that increasing loan delinquency coincides with mountains of debt maturing in 2016 and 2017 is a topic for next time.

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offwirenews's picture

*knock on wood* but take a look at pet rock's little brother right now. F-Yeah!

Haus-Targaryen's picture

I don't think so.  As long as the central banks can print fiat with wreckless abandon, any possible crisis can be papered over in less time that it took me to write this post. 

johngaltfla's picture

CRE delinquency rates are unreal. And the problem is the banksters DON'T want to foreclose on commercial properties because the resale margins are crap or usually they take a loss. Under Dodd-Frank the banksters are burying these NPL's so they don't have the liabilities on their balance sheets.

Squid-puppets a-go-go's picture

on top of that id like to know what the default rate would be if you added refi loans to that figure, and whether refi rates have also risen

TimeIsTheFire's picture

I always thought the next crisis will be not a market crash, but a slow and then violent crescendo of defaults among the general public. Wages stagnate, bills go up. How will the central banks fix that one?

Haus-Targaryen's picture

I often thought that if they wanted to keep the system going while placating the average idiot, if they were to wipe all accounts receivable ... for public with negative net assets (E.g., more debt than assets) this would make everyone happy.  

Did you just lose your $300k 401k?  Yeup.  Did your $550k mortgage just get written off?  Yeup.  

Even the dumbest of the dumb can see this as a net win.  

The only people who would be IR8AF would be the savers in fiat, who would be really fucked. 

TimeIsTheFire's picture

I agree, and the easiest way to achieve that is hyperinflation - print till you die, helicopter money, etc. You don't have to cancel any accounts, but the effects are much the same. And yet, I have yet to hear of an example where hyperinflation was digested without a hiccup.

JRobby's picture

Debt enslavement

"If I could just borrow another $30k to put into the business right now"

Should be replaced by:

"If I sell off as much as I can right now and use the proceeds to buy guns and provisions"

The business is not coming back, ever.

JRobby's picture

More debt issuance in a climate of falling profit and incomes will result in rising default rates. This is a statistical fact that can not be avoided.

Keep rates low for a long period of time and there will be abnormal debt issuance.

Basic economics and finance. The only conclusion is a planned crash. Rebel accordingly.

the.ghost.of.22wmr's picture
the.ghost.of.22wmr (not verified) Jun 29, 2016 3:11 AM

Mr. Truman drops atomic bombs on women and children and it my father who is posthumously adjudged a war criminal.

At Yalta with a sweep of a pen, a senile president condemns a third of the world to communism.

Europe with the zeal of a missionary gone mad, hands over the wealth and resources of Africa to savages who have barely learned to beat a drum.

Then you give them tanks and arms to replace their bows and arrows.

And when your freezers arrive, they use them to store their enemies for dinner.

I have the grace not to mention Vietnam.

All over your brave new democratic world, inflation spirals as literacy drops.

And in America? They vote for law and order whilst shooting down Presidents, schoolchildren, and rock stars in the streets.


The Holcroft Covenant (1985)

JRobby's picture

You are on a roll, keep jamming!

Sky flyer's picture

Go Ag!! Silver bitchezz!

Sky flyer's picture

Go Ag!! Siver bitchezz!

CaptOveur's picture

It's going! ($18.195 this morning.)

Wow72's picture

Over 18.... we have some REAL issues down here that cant be papered over.  Reality is coming home.  "Houston, WE HAVE A PROBLEM!"  "Hi-yo SILVER, AWAY!"

I am Jobe's picture

Never a better time to buy a house in Austin, Texas . Leverage up and pay more property taxes . 

lester1's picture

No worries. The Fed will just print more money and do asset purchases.

NEOSERF's picture

Yes, clearly the Fed now has ZIRP and NIRP, more QE and with some loophole, corporate bond purchases to play with in the next Depression...and God Bless them if this keeps the US from a "Purge" situation...

indygo55's picture

AG LBMA options expire Thursday at noon. Lots of commercials on the wrong side of that trade. I'm betting one more smash down before AG goes ballistic.

Stu Elsample's picture

It's a good time to steal back from the globalists/bankers before they fold...max out those bank issued credit cards on firearms, ammo, and SHTF supplies.

Personally, I sure hope the banks fold since my credit card debt is well above what little is in the savings account (thanks, Obama)

frankly scarlet's picture

Careful. The banker's go fors in Congress could pass a law where, like on student debt, credit card debt is not retired if you go bankrupt. If you are going to run up the card  make sure that once it tops out you qucikly default and have a lawful reason for that default.

Onehundredpercentofnuthin...'s picture

"If the same period applies, we are due for a recession."

I wasn't aware that we ever came out of recession when it started in 2007. What's brewing now looks more like a depression to me. Just about everywhere I go now in travels with my job. I see closed business after closed business after closed business. About the only thing still open in the town where I live is Wallyworld, the liquor stores and convenience stores/gas stations.

buzzsaw99's picture

Consensus currently says we should expect two more rate hikes this year...


Delinquencies don't matter. the fed will never allow the bankers to suffer a loss.

pc_babe's picture

Mortgage volume is the largest of the lot. If home ownership rates are down, so too must be the mortgage loan volumes. From where has all this new debt under the Magic Oreo come?

LIBTARDS ... ya gotta luv 'em

. . . _ _ _ . . .'s picture

What was it Michael Burry said in "The Big Short" about increasing rates of fraud that go up with delinquencies? Are there numbers available on that metric?

JailBanksters's picture

I use the DOW as the Fraud Indicator, Fraud is UP or Fraud is Down.

It's at it's worst when the Fraud Indicator flatlines, because Fraud has stagnated and are running out of suckers to steal from.


JPMorgan's picture

Default and bankruptcy is the only way it can end for many.

When I was nipper it was a case if you want something you get a job and save, now the norm is if you want something you borrow.

It's a fundamental problem of society today that pretty much guarantees debt enslavement.

frankly scarlet's picture

So where did the banks get this money they have loaned out? Of course the banks do have the cost of doing business but any return on money they conjure from the ether is profit. The real problem must be that the private economy is not taking out either large enough loans or at a fast enough pace to replace those loans being paid off or going bad, for which the bankers accept no responsibility of course. Its the debt stupid! Especially the private debt, consumer, real estate and commercial which has reached saturation levels and is now deleveraging, choking the economy in a debt deflation spiral.

ajkreider's picture

Why is this not soley explainable by energy companies going belly up?  The rig count went from 1800 to 300, while production went from 9.3 to 8.7.  That means most of those rigs weren't producing diddly poo.  Of course they were going to default.   It was a bubble.  What does it mean for the general economy?  Nothing.

corporatewhore's picture

as long as you continue to use the lie "Great Recession" you parrot the running dog msm meme.  It is a depression.  It continues on despite brief intervals of transitory recovery.