Econ, Banking, Bonds, Business Owner Therapy, and Who is Liz Truss?
What happened this past week? Refill your coffee because this report is longer than usual.
It wasn’t GDP; that is being released this week on Thursday.
The Industrial Production Index (IPI) measures levels of production in the manufacturing, mining, and electrical and gas utilities sectors. It also measures capacity, an estimate of the production levels that could be sustainably maintained; and capacity utilization, the ratio of actual output to capacity.
It was up 0.4% this past month, exceeding expectations. That’s a good thing and portends well for orders of goods.
Building permits were up ever so slightly and housing starts continued a downward trend.
Not a surprise there; securing a building permit doesn’t mean the house is going to be built and with a 7% 30-year mortgage, there are fewer qualified buyers and consequently, fewer houses sold.
The big good news/bad news piece was initial jobless claims. 214,000 workers filed new unemployment claims. That’s good news since that is a relatively low number.
Which makes it bad news, because it is just not what economists and Wall Street wanted to see. Everyone was expecting 230,000. This shows the economy just isn’t slowing down which means interest rates will continue to rise, probably 0.75% on November 2.
Business Lending
So you want a loan for your business. Or a loan for a business you want to start. OK, let’s delve into that.
Each bank has different underwriting standards. But before we start, let’s make sure we all know what “underwriting” means. The bankers all do, just like they know ‘basis points’, ‘prime’, ‘ABL’, ‘BSA’, and so on.
Underwriting is simply the analysis that a bank does to get a loan approved.
So when your banker – or a banker – tells you that your loan is in underwriting, they are simply saying they are doing the analysis and will let you know when they are done.
Each bank’s underwriting standards are different. Sometimes vastly different and sometimes there hardly seems like any difference at all.
As an example, the national banks use a personal and business credit score to underwrite business loan requests of up to $100,000 or possibly more.
It’s the most economical way of accepting, approving, and documenting a credit request. You plug in some numbers, both personal and business, and the lender almost instantly has an answer. This is for the large banks. They then spit out the loan documents and you sign them.
Smaller banks will manually underwrite small business loan requests. They also usually charge more to do that.
For loans greater than $1 million, most banks will do a more detailed analysis; the bigger banks in an abbreviated manner and the smaller banks with much more detail (and cost).
Regardless, at some point, every lender is underwriting the request with the 5 C’s of credit: Character (credit history), Capacity (can you pay it back), Collateral (what can we get our grubby little fingers on if you don’t pay us back), Capital (how much you have now), and Conditions (what is the underlying economy, political climate and why you need the funds, to name a few).
So as to not completely lose the reader, I will address these items over the subsequent few Reports, so keep this in the back of your mind for next week.
Stocks and Bonds
These are the two main types of investments for the average Joe: Stocks and Bonds. No, crypto is NOT an investment; it’s speculation, just like playing the tables in Vegas. And I’m not overlooking real estate; I’m just not addressing it here.
Stocks.
These are public ownership interests (hence the term “Publicly Traded”) in companies and each company has an alphanumeric symbol for its stock, such as Harley Davidson (stock symbol HOG); Franklin Resources (BEN); Macadamia Orchards (NUT), Cheesecake Factory (CAKE), Ford Motor (F), Pepsi (PEP), Walmart (WMT), Bank of America (BAC) and so on.
Then there are bonds.
Bonds are typically way more boring. Just try to think of the last time you had a conversation with someone about a bond at the water cooler. Or on Zoom.
“I say Mortimer, how are your Allison County bonds performing? I hear there’s a bit of an issue with the tax revenues from the shopping mall since occupancy went below 65%. I’ll bet you a dollar they default”.
Now contrast that to how many people you know discuss their Tesla stock and how they got in when it was $20 in 2019.
You never hear about the folks that bought MCI Telecom at $52 and rode it all the way down to $2.50. Isn’t it odd how I knew that?
Back to bonds…
A bond is a promise to pay whoever holds the bond (you, the investor) by the entity issuing the bond – the borrower – which could be a municipality such as California or Los Angeles, or a corporate entity such as Ford Motor. Or Chase Bank.
That’s the beauty of bonds. There is a commitment for getting your money back, either through interest payments or when the bond matures or both.
It’s totally ironic that Chase Bank could decline you for a loan but then you can buy their bonds, effectively lending your money to them.
There is a catch, though.
Assuming no defaults, you get your interest payments along with the face value of the bond, when the bond matures, but that’s not the catch.
The catch is, as rates go up or down and assuming your interest payments are fixed (just like your 30-year fixed rate mortgage), the market value of the bond you own can go up or down.
I won’t get into the mathematics of it – it’s all about what the value is today of the future payments you will receive, and discount rates. It’ll put you to sleep.
But I will say that as rates rise like they are doing now, the value of the bond being held goes down. No ifs, ands, or buts. Bonds decrease in value in a rising rate environment.
So, a $25 million long-term bond purchased two years ago can lose about $5 million in the last 8 months just because of interest rates going up 2% on the 10-year treasury. But it’s just a paper value; if you haven’t sold the bond, there is no loss.
That’s the beauty of bonds. If you don’t sell them, you still get your interest payments and the face value back when it matures; I can’t say that enough.
Stay with me, we’re almost there. The punchline is coming up.
Now, if you are holding a bunch of these low-interest, long-term bonds, what do you think is happening to the value of that portfolio for say, a pension fund? Now put the word ‘billions’ in for ‘millions’.
And you have what’s happening in England. That’s the punchline.
The pension funds in England are losing their shorts (and shirts and socks) because of rising interest rates.
And the new prime minister, er… former prime minister, said the government was not going to backstop the losses to the pension funds.
That did not go over well. It’s really not a good thing when the pension funds are potentially classified as ‘underfunded’.
It wasn’t Liz Truss or her planned tax cuts that caused the bond portfolio to drop, it was rising interest rates. When rates go up, bond values go down, and they sure did.
The problem was, the pension funds did not have their portfolios hedged. Everyone has had 1% and 2% interest rates for so long that they just got used to it and were quite unprepared when the Bank of England finally started raising rates just a few months ago.
The other part of the problem is that they waited too long to start fighting inflation and raising rates.
Inflation is running over 10% in the UK and the English Pound is very weak against the dollar.
I guess you could say it was the Bond Bus and the Inflation Train that Ms. Truss happened to fall under even though both were going full speed when she took office.
And who is Liz Truss? This will be a brief summary, kind of like her term in office. Also an excellent piece of cocktail party trivia.
Who was the United Kingdom’s Prime Minister when Queen Elizabeth died? Liz Truss.
Which UK Prime Minister had the shortest term in office? Liz Truss.
How long was her stay in office? 45 days.
Unfortunately, I think those will be the things she is remembered for. On the other hand, you really can’t do much in 45 days.
Small Business Self-Help
As a business owner, there is no end to the number of groups and organizations that you are invited to join. The industry groups are the most common, such as Industrial Manufacturing Association, the California Trucking Association, Motorcycle Industry Council, and so on. Then there are the networking groups, based on developing new business. These are the Chambers of Commerce, Business Networking International (BNI), TEAM Referral Network, and Women in Business Networking among others.
Last, but NOT least, there are the “self-help” groups, where the objective is to improve your business performance metrics and tackle problems by discussing your company with other business owners in the group. It’s almost Business Owner Therapy. Vistage, Renaissance Executive Forums, C12, and SoCal Masterminds are a few. Some are national, some are local, but all are helpful. If you join them, they take commitment and honesty but are very helpful because, with these groups, each member is a business owner, just like you. They own or run a business and they have similar problems as you do. Many times, the members solve each other’s problems because they’ve had them before. And they have learned from their mistakes and successes.
You can be the beneficiary of that and I encourage you to join one. Each of these groups is geared towards different sized businesses and budgets, so pick the right one for you. You can even make it a New Year’s Resolution.
Yep, the holidays are coming up.
