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  • Writer's pictureWilliam Webster

FLS loan pricing

In a recent letter from one of the largest UK banks to SME customers unsecured loans are offered at 8.75%.

Cheap funding from the FLS leaves a net margin of around 7.25%.

If you set aside £3 of capital to support the loan and earn £7.25 that’s a 242% raw capital return. Adding an additional 2% administration cost still leaves 175% ROC.

Clearly things aren’t this simple. SME lending is risky. Unsecured SME lending is worse.

A 5% default rate coupled with a low recovery would just about clean out the margin.

However two questions prevail.

  1. Is a 33 times leverage ratio excessive?

  2. Is the lending rate representative of the risks involved?

Whilst (1) is the subject of disagreement between banks and regulators (2) is largely ignored.

What’s clear is that the FLS does have a cost. It transfers wealth from savers to borrowers by keeping money rates beneath where they would otherwise be.

However if that benefit is largely swallowed up by banks the desired effect on economic growth is blunted. Loan pricing therefore becomes a monetary policy issue.

I suspect we will hear more about this in the months to come.

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