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Commercial equipment finance and leasing activity is a free-market industry. The fundamentals of risk and reward matrices ultimately prevail. For several years, excess capital at low yields disguised the fundamentals. During this period of excesses there was little difference between the performance of "A" credit transactions and the performance of "C" (or even "D" credit) transactions. However, over the past eighteen to twenty-four months, the fundamentals re-emerged and the disparity between strong credit transactions and challenged credit transactions widened to more normal (traditional) levels. Seasoned professionals knew that it was only a matter of time before the industry would normalize. As the industry and the performance of assets normalized, pricing increased based upon the upward movement of capital (a significant increase in the cost of funds) and based upon the individual risk of specific transactions. Risker transactions deserve significantly higher yields or declinations. During the normalization period, "quality assets" once again became the primary consideration for every investor, funder, bank, and independent lessor or finance organization. Industry success is defined by an organization's ability to generate excellent performing assets over time. The importance of "controlled growth" is greater than growth for the sake of growth alone.
The Federal Reserve has begun to decrease interest rates and has indicated the likelihood of additional decreases later this year and into 2025. As yields decrease, competition will be fierce to fund additional business now before yields decrease further. Participants will want to protect their higher yielding assets with early buy-out provisions and pre-payment fees (these provisions are already standard policy for most participants). The highest-quality assets will be in great demand. Lenders will give into rate considerations first before they compromise on credit risk. (Quality matters. The performance of legacy portfolios matters.) The concessions on lesser than investment grade clients will rightfully emerge more slowly because significant risk remains for average and more challenging transactions. The market works, and the commercial equipment finance and leasing industry will properly adjust to provide appropriate products and pricing to meet the needs of its clients.
There were many lessons learned over the past two years (the transitional period). Most of the lessons were apparent to veteran industry professionals. Many of the lessons learned had been part of previous economic cycles:
- There are risks in every transaction.
- The responsibility of all participants (individual professionals and companies) is to mitigate risks while maximizing rewards.
- Bottom-line results are more important than short-term top-line postings when building a sustainable organization.
- Sales and credit are intertwined, and the strongest professionals fully understand both.
- Transitional periods eliminate the weakest participants and strengthen the strongest.
- The strongest participants thrive in the aftermath of a transitional period, because they adhere to the fundamentals of risk versus reward.
Savvy industry participants are diligently pursuing the highest quality assets in the fourth quarter of 2024 to finish the year strong and position themselves for a successful 2025.
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