One Metric for Risk is Off the Charts on Real Estate

It is intriguing that the market remains fixated on interest rates and employment as economic indicators while overlooking a crucial metric. As a lender, my year-end portfolio analysis revealed a metric that surged by 400%, an unprecedented change in my 20 years of lending experience. This begs the question: What data is signaling caution for the economy, especially when many lenders, despite describing the economy as positive, are taking drastic measures?

There appears to be a more significant liquidity crunch than what the market acknowledges in the soft landing narrative. Without sufficient credit, there is a visible economic pullback, affecting both consumers and businesses.

Consumer lending is tightening, as evidenced by the SCE Credit Access Survey, indicating a decline in credit demand in 2023. Household expectations for new credit applications, including credit cards, auto loans, and mortgages, are diminishing. Rejection rates for credit applications have increased notably.

Similarly, business lending is contracting, with the Kansas City Federal Reserve reporting a sharp decline in small business commercial and industrial lending. Respondents noted tightened credit standards, decreasing credit quality, and rising interest rates.

Despite market confidence in avoiding a recession, banks are paradoxically tightening lending. In prosperous economic times, one would expect increased lending to capitalize on low default risks and profit from interest rate spreads. However, lenders are significantly reducing consumer, business, and real estate lending, contrary to their public economic outlook.

Notably, in my role as a private lender, the dollar value and number of loans serviced increased by 400%, primarily due to a decline in refinancing, reflecting the broader trend of conventional lenders pulling back.

Looking ahead to 2024, the liquidity crunch is expected to persist, with lending standards rising and small to mid-size banks facing ongoing liquidity challenges. Treasuries are anticipated to remain higher for longer, further constraining the balance sheets of smaller lenders.

The liquidity crunch is poised to lead to an economic slowdown. Despite the term “recession” being replaced by “soft landing,” the importance of borrowing to the economy cannot be underestimated. The lack of liquidity will likely force a correction in asset pricing, impacting various sectors, such as commercial office properties, residential and auto markets, and the corporate bond market.

In summary, a substantial reset in prices across the economy seems inevitable, marking the end of a 20-year era of cheap money that inflated asset prices. While a repeat of 2008 is not foreseen, the notion that the economy is trouble-free is doubtful. The surge in my servicing portfolio serves as a significant indicator of the impending liquidity crunch in 2024, resulting in lower asset prices. As the dust settles, the question remains as to who will bear the losses and the extent of the fallout.