Finance companies originated during the Great Depression
Installment credit
General Electric Capital Corporation
Competition from banks increased during 1950s
Expansion of product lines
GMAC
Ch 3-
GMAC
Controversial approval by the Fed of GMAC as a bank holding company
Allowed access to $6 billion in government bailout money
Fed required GM to reduce its holdings in GMAC to less than10 percent, from 49 percent
Ch 3-
Finance Companies
Activities similar to banks, but no depository function
May specialize in installment loans (e.g. automobile loans) or may be diversified, providing consumer loans and financing to corporations, especially through factoring
Commercial paper is key source of funds
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Finance Companies (continued)
Captive Finance Companies: e.g., Ford Motor Credit Corp.
Highly concentrated
Largest 20 firms: 65 percent of assets
Ch 3-
Major Types of Finance Companies
Sales finance institutions:
Ford Motor Credit and Sears Roebuck Acceptance Corp.
Personal credit institutions:
HSBC Finance and AIG American General
Business credit institutions:
CIT Group and U.S. Bancorp Equipment Finance
Equipment leasing and factoring
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Web Resources
For information on finance companies, visit:
GE www.ge.com
GMAC www.gmacfs.com
www.ally.com
Ford Credit www.fordcredit.com
HSBC www.us.hsbc.com
Citigroup www.citigroup.com
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Largest Finance Companies
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Balance Sheet and Trends
Business and consumer loans are the major assets
58.0% of total assets, 2012
Reduced from 95.1% in 1977
Increases in real estate loans and other assets
Growth in leasing and business lending
Finance companies face credit risk, interest rate risk, and liquidity risk
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Consumer Loans
Consumer loans
Primarily motor vehicle loans and leases
Historically charged higher rates than commercial banks
Low auto finance company rates
Following 9/11 attacks
Attempts to boost new vehicle sales via 0.0% loans lasted into 2005
By 2002, rates were 3.3% lower than banks on new vehicles
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Consumer Loans (continued)
Generally riskier customers than banks
Subprime lender finance companies
Jayhawk Acceptance Corp.
From auto loans to tummy tucks and nose jobs
“Loan shark” firms with rates as high as 30% or more
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Payday Loans
Payday loans
390 percent APR
Regulated by states
As of 2012, payday loans effectively banned in 18 states
Controlled in other states via usury limits
Evaded by forming relationships with nationally chartered banks, based in states that do not have usury limits (e.g., South Dakota, Delaware)
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Mortgages
Mortgages have become a major component of finance company assets
May be direct mortgages, or as securitized mortgage assets
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Home Equity Loans
Growth in home equity loans following passage of Tax Reform Act of 1986
Tax deductibility issue
Defaults in subprime and even relatively strong credit mortgages in 2007-2008
Root cause of the financial crisis in 2008-2009
Ch 3-
Web Resources
For information on home equity loans, visit:
Consumer Bankers Association www.cbanet.org
Ch 3-
Business Loans
Business loans comprise largest portion of finance company loans (~30%)
Advantages over commercial banks:
Fewer regulatory impediments to types of products and services
Not depository institutions hence less regulatory scrutiny and lower overheads
Often have substantial expertise and greater willingness to accept riskier clients
Ch 3-
Business Loans
Major subcategories:
Retail and wholesale motor vehicle loans and leases
Equipment loans
Tax and other associated advantages when finance company leases the equipment directly to the customer
Other business loans and securitized business assets
Ch 3-
Liabilities
Major liabilities: Commercial paper and other debt (longer-term notes and bonds)
Finance firms are largest issuers of commercial paper (frequently through direct sale programs)
Management of liquidity risk differs from commercial banks
Ch 3-
Industry Performance
Strong loan demand and solid profits for the largest firms in the early 2000s
Effects of low interest rates
Not surprisingly, the most successful became takeover targets
Citigroup/Associates First Capital
AIG/American General
HSBC Holdings/Household International
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Industry Performance
Mid 2000s problems arose
2005, 2006: falling home prices and rising interest rates
Sharp pullback from subprime mortgage lending
End of 2009: National all time high for mortgage delinquencies 6.89%
Countrywide Financial and CIT Group failure
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Regulation of Finance Companies
Federal Reserve’s definition of finance company
A firm, other than a depository institution, whose primary assets are loans to individuals and businesses
Subject to state-imposed usury ceilings
Lower regulatory burden than DIs
Not subject to Community Reinvestment Act of 1977
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Impact of nonbank FIs, including finance companies, on the U.S. economy resulted in greater scrutiny
Fed rescue of several finance companies was a factor
2010 Wall Street Reform and Consumer Protection Act
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Regulation of Finance Companies
Regulation
With less regulatory scrutiny, finance companies must signal safety and soundness to capital markets in order to obtain funds
Lower leverage than banks (14.3% capital-assets versus 11.5% for commercial banks in 2012)
Captive finance companies may employ default protection guarantees from parent company or other protection such as letters of credit
Ch 3-
Global Issues
In foreign countries, finance companies are generally subsidiaries of commercial banks or industrials
Importance of nonbank FIs has been increasing over the past decade
Latin America and Europe
New Zealand: consolidation, collapse, and restructuring of finance companies
