Requiem for a bank loan
bitsaboutmoney.com
bitsaboutmoney.com
Especially good to keep in mind for borrowers who are trying to negotiate payoff amounts for fixed term loans. A 5% interest rate increase means you can potentially negotiate a loan payoff for significantly less than you owe for loans that have multiple years remaining. Has anyone been successful at this for consumer loans recently?
Do you mean that you could refinance it to defeat the rule of thumb?
Suppose then prevailing rates go up to 10%. Now you have incentive to take less than a million dollars if I pay it off now. You could take the million bucks and lend it back out at 10% now, but you're stuck with 5% with me.
The question is "how much incentive/how much less would you rationally take?"
Do they?
https://www.federalreserve.gov/monetarypolicy/reservereq.htm
> meaning the total money they can lend out isn't infinite and therefore the money they lent to me they might wish to have back and lend it out to someone else at the higher rate.
That's assuming they have someone else to lend it out to who is not only equally creditworthy, but equally creditworthy at the higher interest rate and therefore payment amount.
Edit: Although if the bank was mismanaged into a bad liquidity situation, they might want to offer an even better price than the difference between treasuries would provide as incentive.
Then there is a slight chance that you can convince the bank to give you a bonus for refinancing with them.
The rate for fixed rate mortgages is now around 4-5% p.a. If you had taken out a 30-year fixed rate mortgage for $100k when rates were around 1%, you can now prepay it for just $70k, i.e., at around a 30% discount.
Another interesting feature is that the mortgage can stay with the property when it is sold (subject to the lender approving the new owner). This means that the current economic value of the mortgage can be factored into the purchase price.
> If you had taken out a 30-year fixed rate mortgage for $100k when rates were around 1%, you can now prepay it for just $70k, i.e., at around a 30% discount.
Maybe this is a dumb question, but could you finance the prepayment with a new mortgage?
This isn't optimal money management. If you have a loan at below market rates, pay it off as slow as possible. Instead of using $70k to pay it off, invest the $70k in something that pays more than the 1%. You'll monetarily be much better off.
In other words, borrow money at a lower interest rate, and invest it at a higher interest rate. You make money on the difference.
A friend of mine who I helped coach through financing his car, did just that. The interest rate at the time was the market rate, and I advised him to accelerate his car payments. But interest rates have risen so much, I advised him to switch to making minimum payments. He caught on quick :-)
It is fixed exactly until my loan is due.
edit to add:
Also, in the context of loans/notes/bonds, duration refers to sensitivity of the price of the instrument to a small change in interest rates.
Knowing the duration of the instrument is all you need, it is very odd to say 'by approximately 1% per year of duration' If the duration is 4 yrs, a 100bp increase in rates will result in a 4% decline in the price of the bond.
The problem is that the bank is carrying the loan on its books and pretending it has full value. Negotiating that improves their actual financial position, but requires recognizing the loss that they are trying to ignore. If the stop ignoring it then they are possibly going to fail.
That is why the banking sector badly needs such a giant bailout right now.
The main problem is if they switch any loan from "to maturity" to "to market", every loan has to switch or none.
If you want to estimate current dollars, and forecast dollars at the end of the month, quarter, year, etc; that's fine too, and would probably give a better picture of the books than wrong math where current and future dollars are compared directly as if they were the same.
Mortgage banks drove the UK bankrupt cap in hand to the IMF in 73 with far far less of a rates delta than is happening now.
Edit : there was a similar breakdown of society as is happening already today almost everywhere , back in 73 in the UK. The main difference is that the banks managed to put much more of the pain onto the common man since then.
But even if that happens, the delta between book value and market value for the banks is mostly covered by shareholder equity, so banks may fail but the system should be fine.
Fascinating look at a world that I just kind of assumed was only for the ultra-wealthy. Who knew one could simply stroll into a bank, and two hours later and a couple of signatures and handshakes, simply walk out with a $100K unsecured line of credit! Mind blown. I always just assumed that you had to show $millions in net worth or be some kind of Investment Banking super-partner to the bank in order to get such generous treatment. Or at least secure the credit with something. Wow.
As you can see, the product selection of users and ongoing results shows that really well.
Though, am I wrong, or wouldn’t it be pretty straightforward for someone with what I assume would be average comp for an HN reader to take out several credit cards and get a similar amount of unsecured credit? Obviously a different loan product (higher interest rate, non-amortizing) but isn’t that a fairly accessible path to six figures of unsecured debt?
For high-net worth individuals it's pretty easy to access significantly sized pledged asset lines of credit, portfolio margin loans, and the like but that's secured debt, often (but not always) variable rate, and the rates are not great.
When interest rates were zero-ish, you could get low margin rates, but again, not fixed and secured.
Agreed, credit cards are a different beast and not as borrower favorable as those lines of credit, but probably with 10 years of responsible credit usage and a decent job could put enough on credit cards to bootstrap a startup with $0 outside equity. And there’s always the Argentina put if it doesn’t pan out.
I talked to my citi private bank rep. He was quoting ~8% rates on asset backed loans. Seemed a bad deal to me. I find that citi is a bit negotiable, so if you are getting quoted significantly better rates let me know!
This is central to the author’s defence of the social importance of banks. And if only it were true, banks really don’t finance small businesses in a meaningful way anymore. At least not in the UK.
I’m annoyed that signature loans have almost disappeared for small businesses, but the amount of credit extended to small businesses is not small. (Particularly if one does not exclude small real estate businesses from the definition of small business.)
Check my own experience with bank when launching a bootstrapped company
Banks definitely do loans for SMB. A lot.
Can you explain more about why fixed terms are related to bank failures? IME very very few loans are held by the issuing bank. Almost all are resold, bundled & securitized, and then resold again as long term debt. Im missing why the bank would care that someone defaults later on. Its
Fixed interest rate loans do exist elsewhere but they tend to be fixed for a fairly short period relative to loan duration, and constitute a much smaller part of the book, so between the two effects you might be looking at an order of magnitude of difference between US banks and say Australian banks in terms of interest rate exposure.
And then there’s the bit where the US simply opted all its banks except the big 4 out of Basel III regulation, which is why First Republic could exist in the first place, and only exist in the US.
too bad this is not publicly permitted, I fear this stuff only gets discussed in private (occulted) societies and 'back rooms' (or private lounges) with lots of wooden furniture (I imagine)
when somebody emits a credit for somebody else, they've set a requirement for the future, this has consequences that ain't so simple; and what's worse, that are all taboo to discuss with 'randos' (outsiders of any sort)