Lifting the lid on car finance

The cost to the banking sector of the PPI (payment protection insurance) scandal is thought to have been in excess of £40bn. At least the compensation provided a welcome boost to UK consumer spending!

Surely, lessons will have been learned, but there could not be another mis-selling scandal, could there?

Well, yes there could, as the city regulator, the FCA, said that it will review historical Motor Finance commission arrangements and sales for overcharging. The FCA’s investigation will look at PCP and Hire Purchase car finance agreements, that were signed before 28^th January 2021. Funding for private new car buyers, typically arranged by the dealership and using the manufacturer’s finance provider, have accounted for 90% of new car sales.

The key issue here is around the historically used discretionary commission model, where car dealers were incentivised by motor finance companies to charge consumers higher interest rates than they otherwise would have done. This practice was banned by the FCA in 2021, but historical commission payments could be subject to redress, with the Financial Ombudsman Service ruling against Lloyds Bank and Barclays. The story has recently featured on the Martin Lewis Money Show, which could increase consumer complaints. The FCA has indicated that the review period will cover a fourteen-year period.

An FCA decision on the matter is expected in September. While difficult to quantify the exact cost and impact on individual banks at this early stage, analysts are currently suggesting the cost could be anywhere from £3bn -£8bn. Some are suggesting it could be even higher than this. While not as costly as the PPI scandal for the bank sector, the pending review may nonetheless lead to a slight deterioration in bank balance sheet capital ratios and lower the expectations around further share buybacks.

Another area of current interest for the FCA is ‘GAP insurance’ and the value that this is providing customers.

Whatever the eventual compensation, it could be a welcome boost for UK consumer spending, alongside falling energy prices, lower interest rates and tax cuts. After a tough December for many retailers is there light at the end of the tunnel?

What have we been watching?

US equities reached an all-time high on a combination of interest rate cut hopes and AI buying. The US Federal Reserve (Fed) meeting is this Wednesday and markets took encouragement from the latest core PCE deflator (the Fed’s preferred measure) which dipped to 2.9%. In addition, the US artificial intelligence craze has carried into 2024 with AI chipmaker Nvidia, hitting an all-time high with a gain of over 25% already this year, while Microsoft, which is stepping up investment in AI, has become the second-ever company to exceed a $3trillion valuation.

While fighting in the Gaza strip continues, the conflict in the Middle East continues to escalate with further strikes by US and UK military on Houthi positions in Yemen. There also appears to be a greater risk of more direct confrontation between the US and Iran following a drone attack in Jordan that killed three American troops. Oil and gas prices have not spiked so far, due to weak Chinese economic data and expectations of mild weather. However, global supply chains are likely to continue to be adversely impacted, driving up freight costs.

While media focus has turned to the Middle East, the conflict in Ukraine grinds on with more Russian missile attacks on Ukrainian cities, while Ukraine has countered by carrying out drone attacks on Russian gas facilities along the Baltic coast. Meanwhile, Donald Trump’s second consecutive win in New Hampshire would seem to set him on course to be the Republican candidate which is not good news for Ukraine or NATO.

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UK Chancellor Jeremy Hunt received some good news as government borrowing in December was much lower than expected at £7.8bn. More importantly, borrowing was a long way below the OBR’s estimates at the time of the Autumn Statement. This significantly increases the fiscal headroom the Chancellor has in advance of the March Budget, for which the government has made its ambition very clear to cut taxes prior to the General Election. Meanwhile, the ‘flash’ January PMI business activity survey continued to flag an improvement in growth momentum. While manufacturing slipped to 44.9, the service sector improved to 53.8. It was notable that employment has picked up, although manufacturers have seen input prices tick higher. Might this give the Bank of England another reason to be cautious when considering when to start cutting interest rates?

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In Europe, the ‘flash’ composite PMI activity survey remained weak, with improvements in manufacturing countered by softness in the service sector. Both France and Germany did see an improvement in manufacturing PMI, although activity still remains in contraction at 43.2 and 45.4 respectively. The European Central Bank left interest rates on hold as expected and continued to downplay the prospect of a cut, describing this as ‘premature.’ However, markets think cuts are indeed on the way, even though the timing isn’t yet certain.

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In the US, the ‘flash’ January PMI manufacturing activity survey was stronger than expected at 50.3 while the service sector improved slightly to 53.8. The US economy grew by 3.3% in the fourth quarter of 2023, faster than previously thought and allaying recessionary fears. However, durable goods orders in December were disappointingly flat, while the latest job claims were also higher than expected. The Fed’s preferred inflation measure, the core PCE deflator, continued to edge lower in December to 2.9% from 3.2% increasing market expectations of an early interest rate cut.

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The Bank of Japan (BoJ) maintained its monetary easing measures but revised its inflation forecasts lower for the next fiscal year from 2.8% to 2.4%.

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The People’s Bank of China cut its reserve ratio requirements for banks by 0.5% which will provide another $140bn of liquidity. China needs to provide sufficient support for its troubled property developers to ensure they complete the hundreds of thousands of apartments in unfinished property complexes. Evergrande was ordered to be liquidated by a Hong Kong court, starting the process of dismantling the world’s most indebted property developer.

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Brent oil climbed to $84 following further US and UK military strikes on the Houthis and news that an oil tanker had been hit by the Houthis in the Gulf of Aden.

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Finally, we recently covered the spike in the price of uranium in Alpha Bites ‘A piece of (yellow) cake’ as more countries are turning to nuclear power. However, this is not a piece of cake for some, particularly France and the UK. France’s electricity operator EDF has warned that its construction of Hinkley C nuclear power station will suffer further delays, taking the cost to £46bn – an increase of almost one-third. EDF is expected to shoulder the cost increase as it was backed by a UK government guarantee on its revenues once up and running. Sacre bleu!

Read Last Week’s Alpha Bites – Red Sea Danger

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Alpha Portfolio Management is a trading name of R C Brown Investment Management PLC which is authorised and regulated by the Financial Conduct Authority.