Capital Markets

Expert: Fed Cut Won’t Spark Capex Spending

It will take more than a big interest rate cut to motivate companies to invest in capital equipment.
Marie LeoneJanuary 22, 2008

The cut in the federal funds rate on Tuesday by 75 basis points — the biggest drop since 1982 — won’t stimulate the equipment leasing market, according to one expert. That’s because a cut in the interest rate is not enough to motivate companies to lease capital equipment amid larger market uncertainties, such as a looming recession. “Lowering the cost of funds doesn’t necessarily increase liquidity,” said Michael Fleming, a principal of the Alta Group, an equipment leasing and finance industry consultant.

“Companies don’t buy or lease equipment because the price is right or because interest rates go down, [they acquire equipment] because they need it,” Fleming told He also pointed out that his clients, which comprise finance companies that fund equipment leases for companies of all sizes, are being “very cautious” about capital spending, because the markets are unpredictable right now. “That may be irrational, because business fundamentals are all pretty good, all in all, but that’s the reality,” added Fleming.

Looking at the market from the lease finance company’s point of view, Fleming noted that a drop in the cost of capital, even if it is 75 basis points, doesn’t mean lessors or lenders are more anxious to fund deals. Instead, finance companies see the rate cut as a margin buffer, a way to add 50 basis points to the lending premium for the risk they assume in an uncertain market. “To that degree, lessors may be a little more inclined to fund deals.”

Charge-offs, or the average losses on equipment leases, have been relatively low compared to reports of bad debt write-offs at subprime mortgage lenders. In December, the charge-off rate for equipment leases rose to 0.62 percent as a percentage of net receivables, which was the highest point reached this year, according to data from the Equipment Leasing and Finance Association. In May, the charge-off-rate hit an annual low of 0.45 percent. In 2006, charge-offs dropped as low as 0.33 percent in July, and climbed to a high of 0.61 percent in February. In the end, said Fleming, “if there is a chance that you are not going to be paid back, what does the price [of capital] matter?”