Business Times - 09 May 2008
US banks clamping down on loans
This suggests that Wall Street's recovery rally is overly optimistic
(WASHINGTON) Wall Street seems to have concluded that the worst of the credit crisis is over and investors are looking to better economic times ahead, but Main Street is sending the opposite signal.
While banks have raised cash by the billions to shore up balance sheets that were battered by bad bets on mortgages and other loans, the front-line staff in charge of doling out that money to consumers and companies remain downbeat, suggesting that the US economy may stay in the doldrums for some time.
The US Federal Reserve's quarterly survey of senior loan officers, released this week, showed widespread tightening of credit.
The percentage of banks reporting tougher lending standards was close to, or above, historical highs for nearly all loan categories in the survey.
Banks clamped down on loans to companies large and small, to prime and sub-prime mortgage holders, and on credit cards, home equity lines and other consumer credit. Most banks blamed a less favourable economic outlook for the tightening terms rather than their own bruised balance sheets.
That does not bode well for spending, which accounts for the bulk of the US economy, or for corporate profits.
'Main Street has just entered the act. The peak of the pain is not visible yet,' said Asha Bangalore, an economist with Northern Trust in Chicago.
The consumer strains are well-documented. Aside from the credit contraction, petrol and grocery prices are on the rise, the housing market remains distressed, and consumer confidence is at recessionary levels. Tax rebate cheques are in the mail, but that alone cannot compensate for the credit clampdown and inflation pressure.
'Given that households are strapped financially, it is far-fetched, even with the stimulus cheques, to expect a sharp increase in consumer spending,' Ms Bangalore said. 'You have seen auto sales numbers for April - they posted a sharp drop.'
Meanwhile, the Standard & Poor's 500 index is up nearly 13 per cent since mid-March as investors look beyond the current troubles.
Stock markets are forward-looking by nature, so it is not surprising that investors would think about how the economy might look in the coming months.
To say that Wall Street expects a second-half recovery would be an understatement. According to Thomson Reuters research, analysts are expecting fourth-quarter earnings growth of 62 per cent for the S&P 500.
Granted, that is a comparison with a disastrous fourth quarter of 2007, when earnings were down some 25 per cent. In the current quarter, S&P 500 earnings are expected to be down 6 per cent.
Not only is the market anticipating a swift recovery, but the earnings forecasts suggest that analysts think it will be lasting. For next year, they expect earnings will be up 18 per cent, twice the growth they are predicting for 2008.
They see particularly strong growth for consumer discretionary companies, beginning with the next quarter.
Earnings for that sector are expected to jump by 41 per cent in the fourth quarter, and 24 per cent next year.
But if banks remain reluctant to lend, spending will likely be sluggish. The head of Wal-Mart's US stores division said last month that consumers appeared to be 'topped out' and unable to obtain any more credit.
Deutsche Bank economists said that if banks stay as stingy as they are now for a few more quarters, it could shave one-half of a percentage point from consumer spending. Considering that consumer spending rose by a slim one per cent in the first quarter, that would be a significant blow.
Northern Trust's Ms Bangalore said that in past recessions, it took several quarters for credit conditions to improve. With banks staring at losses in the US$400 billion range just from bad mortgage-related assets, it could be even longer this time.
Jack Ablin, chief investment officer at Harris Private Bank, pointed to another sign that Wall Street's recovery rally may be getting ahead of itself.
The Dow Jones index of transportation stocks has jumped 20 per cent from a March 10 low, hitting an all-time high on April 30, he said. Transportation stocks are often seen as early indicators of economic strength.
'While I'm encouraged by the move, the surge in transports runs completely counter to the spike in crude oil,' he said, noting that until March, the transport sector had consistently taken its cues from oil prices over the last two years.
'The move in transports suggests that our economic downturn will be short-lived and mild. The challenges facing homeowners and consumers these days make this view overly optimistic,' he said\. \-- Reuters
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