Navigating a risky market

stimulate the economy.

Index highlights increased rate of first-time defaulters

Results from the Experian 2022 living and the cost of debt across the market. This severely impacts their affordability, which limits their access to formal credit and could encourage them to seek credit from informal providers in the unregulated market.

In addition, Nersa-approved electricity tariff increases of 18.65% and 12.74% in 2023 and 2024 respectively will impose additional upward pressure on inflation and further strain household finances. This could suppress consumer spending for longer at a time when the economy needs more spending to support businesses and

Lenders need to strike a balance between their responsibility to fuel the economy by extending credit to consumers and businesses to purchase goods and assets while maintaining good credit policies to reduce bad debts, explains Gary Palmer, CEO of Paragon Lending Solutions. Banks and nonbank lenders will need to remain circumspect when lending in the current environment. As such, they will adjust their lending models accordingly when assessing credit risk and determining affordability.

When adjusting credit models to factor in the various risks at play, Palmer says that credit committees at banks and nonbank lenders may opt to no longer grant credit to businesses or consumers that previously qualified based on changing affordability and serviceability metrics.

In other instances, lenders may opt to adjust their loan-toasset value to balance risks to keep lending in a responsible manner he adds.

As credit providers have their own models for assessment, each has the flexibility to tighten or loosen certain variables to adjust for different risk levels, elaborates Ayanda Ndimande, Business Development Manager of Retail Credit at Sanlam. Often, decisions are based on credit policy and behavioural scorecards. Risk management plays an important role in credit, and it aims to protect both the creditor and the consumers from high credit exposure.

“In a recessionary or high inflation environment, creditors typically tighten scorecards and increase the minimum threshold so that only customers with good affordability qualify. This is necessary to ensure consumers grappling with the higher cost of living can absorb higher monthly repayments as there is potential for further interest rate hikes she says. Lenders in the business space are also tightening credit risk assessment criteria in light of these heightened risks, says Frank Knight, Debtsource CEO. Debtsource has shifted from a more liberal to a more conservative credit stance in response to a noticeable increase in credit risk.

Statistically, Debtsource recorded a year-on-year increase of about 30% on credit facilities assessed over the past 12 months to the value of roughly R61bn. That almost exactly mirrors the latest liquidation statistics published by Stats SA, which reflects an increase of 30.3%, albeit with distinctly different figures, explains Knight.

“These figures represent an increase in the endemic risks in the market, which necessitates underwriting for companies that did not require this step previously While most credit insurance companies reported relatively low claims in 2022, the sector experienced an increase over the past quarter due to the prevailing economic and financial pressures. In response, our overall decline ratio has increased from a rate in the mid-teens late last year to the early twenties presently. This represents an overall increase in rejections of about 20%, says Knight.

Q4 Consumer Default Index (CDI) paint a worrying picture of consumers under immense financial pressure. “The CDI measures the rate of first-time defaulters, and things are not looking good, says Jaco van Jaarsveldt, Head of Commercial Strategy and Innovation at Experian.

The macroeconomic factors affecting consumers include poor economic growth, record load-shedding, rising inflation and interest rates, and belowinflation salary increases.

The net impact is a rise in first-time defaulters, with the CDI Composite Index deteriorating from 3.52 in December 2021 to 3.93 in December 2022. Total outstanding debt averaged R2.09-trillion in Q4 2022, with the average new default balance reaching a substantial R20.49bn, says Van Jaarsveldt. In addition to the quantum of outstanding debt and rising rate of first-time defaulters, another trend that first emerged in Q1 2022 continues to cause concern when analysing the most recent data.

We are seeing the biggest financial stress among the top Luxury Living and Aspirational Achiever financial affluence segmentation (FAS) groups, and at the bottom among the

Yearning Youth and Laboured Living groups, he says.

Middle-income earners the Money-Conscious Majority and Stable Spenders FAS groups are faring better. This trend stands in stark contrast to the 2008-2009 global financial crisis when the highest income earners were least affected.

Data from the Q4 2022 CDI report shows a deterioration in first-time defaults on home and vehicle loans. The Home Loan Index deteriorated from 1.57 to 1.70, while the Vehicle Loan Index worsened from 3.78 to 3.83 between December 2021 and December 2022.

Consumers owed R1.09trillion on home loans in Q4 2002, with R4.64bn in first- time defaults experienced during that period. First-time defaults on vehicle loans reached R4.57bn, from a total of R476bn in outstanding debt, says Van Jaarsveldt. “Traditionally, default rates in these product categories are lower as these loans are only accessible to higher income earners. These consumer segments are experiencing significant financial distress due to higher interest rates. Consumers under the age of 35 in the Luxury Living and Aspirational Achievers FAS groups are the major contributors to worsening firsttime default rates. Many had never experienced high interest rates. Those who were overexposed and geared to the hilt were ill-prepared for the pace and scale of the rate-hiking cycle,” says Van Jaarsveldt. The higher cost of living and debt servicing costs are now forcing consumers in every segment to rely on personal loans to finance living expenses. Total outstanding debt on personal loans surpassed preCovid levels, reaching R314bn at the end of 2022, with R7.4bn in first-time defaults between October and December. And with additional interest rate hikes on the cards, the pressure on consumers in every segment will continue to mount.

Regulated pricing review overdue

All credit providers are required to comply with the National Credit Act (NCA), which was implemented to transform the South African credit market.

The NCA was introduced in 2007 to curb reckless lending by requiring registered lenders to conduct full credit assessments, validate an applicant s stated income and ensure they can afford the monthly repayments.

These regulations ensure consumers are treated fairly and protected against reckless lending practices, explains Brett van Aswegen, CEO of Wonga.

Concerns have emerged from various industry players that the current credit pricing caps stipulated in the act have created an unintended consequence by reducing access to credit, especially among lower-income earners.

Access to regulated credit gives people the ability to augment their income to better manage expenses, invest in education or start a small business. It can also help improve their standard of living while building a credit record, which could give them access to better credit terms over time.

Unfortunately, credit industry players are limited by the current pricing stipulated in the act, believes Van Aswegen.

“The capped pricing stipulations in the regulations have priced many South Africans out of the formal credit market as lenders cannot take on the risk of default due to the low margin in the capped fees. The majorconcern is that the people who could benefit most from a loan are typically declined, which pushes them towards the unregulated market, where there is no oversight, no consumer recourse and no contribution to shared consumer financial data at credit bureaus. The fees in the pricing regulation have not been reviewed since 2015 and have not kept up with inflation. A pricing regulation amendment is long overdue, he says.