The majority of small business loans will hit the double-digit interest level for the first time since 2007, as a result of the Federal Reserve's latest rate hike, which added half a percentage point to the cost of debt capital.
The cost of taking out loans, and making monthly interest payments on business debt already has been rising swiftly after successive mega 75 percentage point rate hikes from the Fed, but the 10% level is a psychological threshold that small business loan experts say will weigh on many entrepreneurs
The maximum spread over the Prime Rate is 3% for the small business administration. The most common SBA loans will now have a higher interest rate after the rate hike. The Prime Rate has been at its highest level in over two years.
It is not a new experience for veterans of small business lending.
Chris Hurn, founder and CEO of Fountainhead, said that Prime was 8 percent in May 1998 when he started in the SBA lending industry.
He made loans at the Prime rate, which was the maximum over Prime that anyone could charge on an SBA loan. Rates in a short period of time were not the norm.
In less than a year, we will have doubled and it will have a huge psychological effect.
One of the main costs of Fed rate hikes on Main Street is the monthly interest payment. Business owners are forced to make more difficult decisions and sacrifice margin because of the high cost of servicing debt. Potential new applicants will have a psychological effect. Hurn thinks it has started. He said that business owners would be careful next year.
It is a big deal that every 50 basis point costs more. Many business owners have never seen double-digit growth. It could be a tipping point if psychology doesn't change. Some people have told me that it will be double digits.
The percentage of entrepreneurs who reported financing as their top business problem reached its highest reading since December of last year, according to a monthly NFIB survey. A quarter of small business owners said they are paying a higher rate on their most recent loan. Most owners don't want to apply for a loan.
There will be more pain in the future.
The expectation is that the Fed will keep rates high for an extended period of time, even if the 10% interest level is broken. Even if the economy goes into a recession, the Fed won't cut rates. According to the latest CNBC Fed Survey, the peak Fed rate will be 5% in March 2023 and the rate will stay there for nine months. The survey respondents said a recession wouldn't change their view of the future.
The Fed's projection for the terminal rate went up on Wednesday.
The problem will be worsened by the fact that as the economy slows the need to borrow will increase for business owners facing declining sales and unlikely to get additional support from the Fed or government.
Getting inflation down from 9% to 7% was likely to take less time than getting inflation from 4% to 3%. It will take a long time and will cause more pain for everyone. A full year of high payments and low growth, and even if inflation is coming down, not coming down at a pace to offset other costs, is what will happen if rates don't come down until late in the 20th century.
The economy may be entering a recession for the first time in four decades due to higher interest rates and inflation.
We are going to have a problem for a long time. We won't see a V-shaped recovery, but this recession won't be as deep as 2008 It will take a while to come out. Staying at these levels will be the biggest challenge for quite some time.
More business owners will cut back on investments because of the rising costs of monthly payments.
Hurn said that talking to small business owners looking for financing is slowing down.
Changing expectations for revenue and profit growth has led to more focus on cutting costs.
He said that it was having the effect the Fed wanted but at the expense of the economy and smaller companies. It will be more painful if inflation hasn't already been painful.
Margins have been hit as a result of the costs of monthly payments, even at a low interest rate, the yearlong SBA EIDL loan repayment Waiver period has now ended for the majority of business owners eligible for that debt, adding to the monthly business debt costs.
There will be more borrowing by business owners because of economic uncertainty. Core capital expenditures will get hit if they have not been already. The year will be a difficult one.
In bad economic times, there is always a need for debt capital, but it will curtail the interest in growth oriented capital, whether it is a new marketing plan, the new piece of equipment making things more efficient or designed to increase scale. Demand for regular business loans will continue.
Even though the credit profile of business owners hasn't weakened, banks will tighten lending standards into next year. According to the latest Biz2 Credit Small Business Lending Index released this week, the percentage of small business loans approved at big banks dropped in November to the second lowest total in the last ten years.
The economy is slowing but not yet in the interim financial statements that banks use to review loan applications. Business conditions were stronger in the first half of the year and as full year financial statements and tax returns from businesses reflect second half economic decline and likely no year over year growth for many businesses, lenders will be denying more loans.
Demand for SBA loans will continue to be strong. Business loans could be as high as 12% by the second quarter of 2023, based on current expectations. Hurn said that when he made his first SBA loan it was 12% and Prime was 9%.
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