Funding's Many Views

How you see and experience the capital markets depends on your perspective.

Bees buzzing, cows munching, birds flitting overhead. If you were an originator selling high-quality lease or loan transactions in 2019, your funding environment probably looked something like this, a pastoral painting exuding harmony.
If you were a buyer, however, the scene might have more closely resembled a shark tank, the short supply of good deals drawing a frenzy of sharp-toothed competitors that spiked prices and then gobbled everything in sight. 

Hungry Eyes

Chris Meeks, Senior Vice President of Capital Markets at OnPoint Capital in New York City, says this about last year: “We saw a lot of activity and a lot of appetite in 2019, more appetite than we had business for, in some cases. We did notice a change in response time from our funding partners in October, when concern about a possible recession made buyers a bit more diligent about what they secure in their portfolios. But we haven’t seen a decrease in their activity.” 

“I’m a seller, and I can see where buyers might complain,” says Bob Blee, Senior Managing Director of Global Capital Markets for GE Healthcare Financial Services in Hunt Valley, Maryland. “Two thousand nineteen was another year of strong liquidity in the capital markets, both for investment-grade and non-investment-grade credits. As a result, pricing was very competitive, and it was tough for buyers to achieve acceptable yield targets.”

“The possibility of a recession seems to have receded somewhat… We’ll see how things go as we get closer to the election.” 

Bob Blee
GE Healthcare Financial Services 

Henry Frommer, Senior Vice President and Managing Director of Wells Fargo Equipment Finance in New York City, says that in his view, 2019 continued a 4- to 5-year pattern of high liquidity and a low supply of worthy investments, manifesting in thin spreads for funders and a subdued demand for financing. “The long and the short of it is that it was good to be a borrower or a seller, and not so good to be a lender or a buyer,” he says. 

“We’re pretty optimistic about 2020 in general.”

Sera Oliver
Key Equipment Finance

Sera Oliver, Director of Capital Markets at Key Equipment Finance in Albany, sits on the buy desk and saw the best of both worlds in 2019. “It was great,” she says. “Last year was one of the best years we’ve seen on the buy desk and on the syndications side as well.” Oliver observed some consolidation in banking, “and that may have led to fewer competitors in the niches where we purchase,” she reasons. “But there was also increased selling activity because of lower interest rates,” she adds. “We saw companies pulling deals out of portfolio or syndicating deals we wouldn’t have seen otherwise, because they realized they could sell these transactions at lower rates than they put them on the books for.” 

Shifting Shapes

Each of these funding professionals generally expects the same elements to form the big picture for the first half of 2020. After that, however, they’re not as sure. “The possibility of a recession seems to have receded somewhat, and I expect modest growth in the GDP this year, perhaps 1.7%, as indicated by economic forecasts,” says Blee. “We’ll see how things go as we get closer to the election.”

Oliver thinks similarly. “We came into 2020 with a healthy backlog on the buy desk, which is promising,” she says. “We have to get those deals to fund, and sometimes things drop out. But activity continues to be strong, and although the election could have an impact at year-end, we’re sitting in a good spot now, and we expect it to continue at least through mid-year.”

 

“The leasing industry has always been innovative and had its finger on the pulse of capital markets, so we will evolve and prosper, even as times change.”

Henry Frommer
Wells Fargo Equipment Finance 

Frommer concurs, but wonders how long current conditions can last. “Banks are under enormous pressure because they’re not making enough profit,” he says. “A very liquid market inflates asset prices and at some point, banks may decide they’re better off controlling other costs and not putting the money out.” He doubts funding availability will shrink as early as this year, but says there’s anecdotal evidence that some large banks are “pulling back, due to low profitability and poor spread related to deals they’re asked to invest in.”

He further alludes to lackluster capital investment by business and indications that consumer spending may be starting to wane. “We’ve had a consumer-driven economy for several years now, but employment numbers are flattening and car sales are flat or beginning to decline,” Frommer says. “Together, all of these situations could mean that we’re approaching the top of the economic cycle and decline is on the horizon.” 

Market Elements

Complicating matters is the failure of some industries to recover fully from the 2007-2008 recession. To that end, Key Equipment Finance continues its cautionary position on mining, oil and gas, and energy, and Oliver says over-the-road trucking also now warrants more consideration. “We believe trucking may be entering a cyclical downturn,” she says. “We’ve been cautious for a while on marine transportation tied to oil and gas, but we began looking more closely at non-private-fleet trucking late last year. This year we’ll be taking a hard look at our residual positions.” 

OnPoint Capital is taking a hard look at another trend—usage-based financing—and creating new products that offer it. A captive whose core industry is material-handling, OnPoint finances fleets of forklifts, aerial lifts, power systems and other equipment used in the industry. “We’ve heard about disruption caused by demand for utilization-based financing, and now we’re seeing that demand,” says Meeks. “Material-handling is all about streamlining utilization, and that dovetails into pay-as-you-go,” he adds. “We’re hearing directly from clients that they want non-conventional lease solutions with shorter terms and utilization-based models, and we’re responding by constantly talking about and developing new solutions.”

Meeks believes usage-based financing is here to stay, not only in material-handling, but in other industries the company serves, which include printing and graphic arts, construction, retail and energy. “I think it’s aligned with the larger cultural shift toward efficiency and sharing,” he says. “When I was younger, ownership was status, but newer generations don’t care about that. They want flexibility with minor commitment, and it’s a major change in mindset.” 

Along with the increased demand for non-traditional funding, Meeks notes specific nuances troubling some markets. “Retail continues to be hard to get done because of the constant change in how products can be purchased, and energy is still difficult, due to limited data on the future value of assets and complex tax credit economics,” he says. “But construction has rebounded somewhat recently, and we’ve financed equipment for several clients who had good years in 2019.”

Frommer says another market still suffering, this one from overexpansion that occurred before the last recession, is the corporate jet space. “But while one bank may decide not to finance business jets, there are equity funds, credit funds and others who are happy to lend to this entire industry at fairly reasonable rates,” he says, “so I haven’t seen trimming of funding availability for any industry—not yet.” 

Frommer lists oil and gas as another sector that’s still hurting but able to find funding, mostly outside banks. “The middle market sector in the oil patch, particularly businesses that supply oil producers with drilling rigs and services, is still suffering, and I think banks as a whole are pulling back,” he says. “But non-bank lenders are active in that space, doing deals that are heavily collateralized. It’s a world market, after all, so you have to consider demand from all over the globe when thinking about one small part of it.” 

“We’re hearing directly from clients that they want non-conventional lease solutions with shorter terms and utilization-based models.”

Chris Meeks
OnPoint Capital

The Elephant in the Room

All else considered, interest rates appear to be the main element preventing new financing landscapes from falling into place. Funding professionals agree that higher rates would lessen liquidity, increase profit margins and give equipment finance companies more elbow room to negotiate deals. But their views vary on the impact of low rates on their companies. Says Meeks, “Low rates spur activity in the marketplace and encourage clients to spend capital, but they make the competitive landscape even tougher. When rates are this low it’s not enough to provide money; you really have to have a niche in the marketplace to get business.”

Recalls Blee, “Last year, many of us thought the Fed might continue to increase rates. But slowing global growth forced the Fed to actually reduce rates, and some leasing companies took advantage of that to sell assets out of portfolio.” Blee thinks the Federal Reserve will keep interest rates low for the first half of 2020. “And that’s a good thing,” he says, “because if something unforeseen occurs, rates can still be reduced.”

For his part, Frommer stresses that higher interest rates would create a larger pool of attractive investment opportunities and help to absorb liquidity. But neither he nor others think rates will increase soon. “We expect relatively flat rates that won’t deviate,” says Oliver. But she thinks other issues are more important. “This is a relationship business,” she says. “If you don’t keep your customers happy, they’re not going to give you their business. They’ll take it elsewhere, whether it’s a complex deal or a straightforward transaction, whether it’s investment grade or lower middle market. You just won’t see it unless you offer great service.”

Whatever scenario comes together in 2020, Frommer thinks it will first be mirrored in the capital markets. “There’s so much activity on the syndication side as companies move to improve their risk profiles,” he says. “The leasing industry has always been innovative and had its finger on the pulse of capital markets, so we will evolve and prosper, even as times change.”

Old News?

This year’s political elections notwithstanding, the regulatory environment is not expected to be a factor. Says Blee, “There’s nothing specific to capital markets that we foresee.” Oliver uses similar language: “We don’t see anything on the horizon that will impact our ability to provide funding. We’re aligned with economists and the markets in our view.”
Frommer says banks have largely accepted that regulation is ongoing. “Perhaps if the entire lending community stepped back and said regulations were preventing us from doing business, things would change,” he says. “Short of that, I don’t see the regulatory environment changing, no matter who is elected.”

Meeks mentions that many recently passed finance regulations focus on the consumer side of the industry. “But I will say the tax side is something we keep our eye on,” he says. “Tax credits for energy applications such as power management, hydrogen fuel cells and lithium batteries that drive electric vehicles are making changes in our core industry.” 

Even with change as a prism, however, funders’ views are consistently positive for early 2020, thanks to the continuation of high activity levels and good-quality transactions. Oliver sums it up: “From a Key Equipment Finance perspective, we don’t see anything from a funding view that will be different. We’re pretty optimistic about 2020 in general.”