As the local economy slows, the level of debt being carried by L.A.-area consumers and businesses becomes a topic of increasing importance and intrigue.
Anecdotal evidence suggests that debt levels are alarmingly high, and rising. But because virtually all debt is tracked by the headquarters location of the lenders rather than by the location of borrowers and the lion’s share of Angelenos’ debt is owed to lenders elsewhere definitive numbers on local debt are not available. Several indicators, however, suggest L.A.-area business debt loads are falling, while consumer debt continues to rise.
On the consumer front, Angelenos are taking on slightly more mortgage debt. Lenders issued $5 billion in mortgages for the purchase of L.A.-area residential properties during the first quarter ended March 31, up 2.9 percent from the year-earlier period, according to DataQuick Information Services.
Residential refinance loan volume in L.A. County skyrocketed 64.3 percent in the first quarter, but almost all that borrowing was used to retire pre-existing mortgage debt. So the net effect on consumer debt is minimal.
As for Angelenos’ credit card debt, it is believed to closely parallel the national level, which stood at $553 billion as of May 31, up 8.3 percent from a year ago, according to the Federal Reserve Bank. (Visa and MasterCard have the ability to break out regional credit card debt levels, but they both declined to do so.)
Gary Zimmerman, an economist with the Federal Reserve Bank in San Francisco, believes L.A. consumers are taking on more credit card debt, despite the slowing economy, because of the “wealth effect” created by home price appreciation. A similar but more dramatic wealth effect was observed in the Bay Area during the late 1990s, driven by capital gains in tech investments. (That effect has begun to reverse itself in recent months.)
As for the debt levels of L.A.-area businesses, they are likely declining for a number of reasons. For one, banks are increasingly reluctant to extend new credit to local businesses because of the rising volume of non-performing loans in the area, and nationwide. Also, L.A. businesses are reluctant to increase their debt loads due to concerns about slowing earnings and job growth. In short, both lenders and borrowers are more interested in cleaning up their balance sheets and reducing their exposure in the slowing economy.
Businesses intent on taking on more debt increasingly are opting for alternative sources of financing with less-restrictive terms than bank loans.
Junk-bond underwriters and subordinated lenders “have stepped up to fill the gap that the banks have abandoned,” said Gregory Range, managing director in the L.A. office of investment bankers Duff & Phelps LLC.
Subordinated loans generally carry higher interest rates (11 to 14 percent, vs. 7 to 9 percent for bank loans), and longer terms (five to seven years). They typically only require borrowers to pay interest over the term, with a balloon payment for the entire principal amount due at maturity. However, the borrower also typically has to provide the subordinated lender with warrants the right to purchase an equity stake at a predetermined, discounted price.
