The unemployment rate dropped to 4.2% in September, its lowest since February 2001, and yet consumer loan defaults keep creeping up.
In fact, the divergence between the labour market on one hand, and consumer credit performance on the other, is at a record. What figures?
UBS analysts led by Matthew Mish and Stephen Caprio set out to answer that question, and their findings highlight the financial difficulties many millennials are facing.
According to Mish and Caprio, there are two cohorts that have been left behind by the labour market: lower income households, and millennials.
“The most underappreciated factor explaining consumer stress is the two-speed recovery in US consumer finances,” they said.
The two strategists dived into the Fed’s latest Survey of Consumer Finances to calculate a bunch of metrics, including the the levels of debt to assets and income across across different age cohorts. Those ratios are near record levels, with the millennial debt-to-income ratios in line with 2007 levels.
And that might not tell the whole story. The Fed survey suggests 38% of student loans are not making payment, while the structural shift from owning a home and paying a mortgage to renting means that more households are paying rent and making auto lease payments. In other words, they might have significant outgoings that aren’t being captured in the debt figures.
“We believe this is particularly problematic when assessing the financial obligation ratios of US millennials and lower income consumers,” UBS said.
So what does this mean? Here’s UBS:
“Longer term, the two-tier recovery in consumer finances suggests key segments of the US population (lower income, millennial households) are more financially vulnerable than aggregate consumer credit metrics imply. In turn, these groups will be more sensitive to fluctuations in labour market conditions and interest rates ceteris paribus.”
That’s a touch worrying, especially at a time when interest rates are going up.
For context, millennials hold 18% of debt outstanding, according to UBS, and make up 19% of annual consumer expenditures. Together, the two cohorts “left behind,” lower income households and millennials, make up about 15% to 20% of debt, and 27% to 33% of expenditure.
So if they’re struggling, it has the potential to negatively impact the economy pretty significantly.