U.K.-based financial services company HSBC Holdings (HBC) took the market by surprise with an announcement that it is raising the level of its loan impairment provision by 20% from current market estimates that average $8.8 billion. The percentage increase translates to another $1.76 billion that will be set aside for bad debts.
According to the company, the deterioration in the U.S. sub-prime mortgage market was the catalyst for boosting its loan loss provision.
Now, it is little surprise to hear HSBC acknowledge the challenges it is seeing in the sub-prime business. Other lenders, such as Active Portfolio holding H&R Block (HRB), have said the same. As an aside, H&R Block has been shopping its sub-prime business and is expected to announce the results of that effort fairly soon. Announcements like the one from HSBC, though, won't help in its bid to sell the business at a premium price.
What is stunning about HSBC's news is the size of the increase. The company said it has been necessitated by the impact of slowing house price growth that has led to an acceleration in delinquency rates, particularly in more recent loans, as refinancing options have been curtailed due to the absence of equity appreciation.
HSBC is also planning for more delinquencies based on the fact it is seeing slower prepayment speeds and knowing adjustable rate mortgages will re-set at higher levels from original contract rates.
Reading between the lines, some company-specific blame can be assigned to HSBC. After all, the factors it cited above are risks that have been well-known for some time.
Might HSBC's news be a harbinger of things to come for others? It could be, but it was revealing to us that HSBC acknowledged it is seeing an acceleration in delinquency rates, particularly on more recent loans. At this juncture then, HSBC's news strikes us as a case of a company being victimized more by its own poor underwriting standards than it is by the vagaries of the mortgage market itself.
Sub-prime lenders will no doubt feel the pinch of the housing slowdown and higher mortgage rates. Many have already admitted as much, but without making a material revision to their loan loss provisions.
