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Amigo Holdings: Regulatory Change Means No Recovery Likely

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About: Amigo Holdings PLC (AMHLF)
by: Tim Worstall
Tim Worstall
Tech, banks, gold & precious metals, natural resources
Summary

Amigo Holdings PLC provides high-interest loans to those with bad credit ratings and is also a guarantor.

There's significant regulatory uncertainty around the whole sector, and this has driven at least two other similar companies out of business.

I don't think the political pressure will allow Amigo to survive and thrive long term.

Payday loans and other low credit lending

The UK has a significant body of public - and therefore political - thinking that states high-interest rates simply should not exist. A world in which people can be charged, say, 500% APR on a payday loan is one in which the rules are wrong and thus they must be changed.

Pointing to economic reality and insisting that high interest rates as measured by APR don't tell us the full truth about short-term loans doesn't matter. Nor does pointing to repayment rates from those with low credit ratings. People - or enough of them - simply won't accept such high interest rates on consumer loans. Thus the sector is being progressively legislated out of existence.

I don't think that there's any way that, in the medium term, Amigo Holdings (OTCPK:AMHLF) can avoid this fate. Thus I am a bear on the stock. Not sufficiently to recommend a short position as I don't know timescales, but very definitely not bullish. Best to avoid the stock that is.

The Federal Reserve on payday loans

The Fed pointed out a few years back that if you limit interest rates then certain forms of loans simply will not be made. Payday loans, when we include the fees as well, can have interest rates of 391%, which is expensive. That is a valid enough complaint.

Yes, we see that in the British body politic. The Fed went on to point out that competition does limit what can be charged, and also that the high prices seem justified by the high costs of the business model.

While that is also true it's not true enough for people to overcome their revulsion to those high, necessarily high, interest rates.

Even though payday loan fees seem competitive, many reformers have advocated price caps. The Center for Responsible Lending (CRL), a nonprofit created by a credit union and a staunch foe of payday lending, has recommended capping annual rates at 36 percent “to spring the (debt) trap.” The CRL is technically correct, but only because a 36 percent cap eliminates payday loans altogether.

True, that's all about the US and 36%. But the same political movement is underway in the UK. Both Wonga (last year) and QuickQuid (very recently) have failed as companies because something akin to that interest rate cap was instituted. Yes, they were both payday companies but the movement, I insist, is going to overwhelm Amigo as well - which isn't a payday company.

People like Stella Creasy MP have been campaigning so hard on the issue, and are still doing so, that I regard it as obvious that the market niche is going to be regulated away.

Amigo Holdings PLC

The company only came to market just recently (June last year):

Amigo(Amigo Holdings share price from London Stock Exchange)

That recent sudden halving of the price came from the company reporting the effects of regulatory changes upon their ability to lend profitably. And I'd further argue that the general decline is partly the result of awareness of how that political campaign to ban high interest rate lending is advancing.

Amigo's lending

We should note that Amigo isn't providing payday loans. Rather, greater advances - up to £10,000 - and for longer periods too. But the interest rate averages 49%. And they only manage to get it that low because borrowers must offer a guarantor for the loan.

The guarantor is perhaps the problem:

A deteriorating economic outlook and a looming regulatory crackdown on subprime lending have shaken the company. Amigo tightened its lending policy in August and warned that it expected no growth in its loan book this financial year. The share price plunged more than 50% on the day.

The Financial Conduct Authority said in March that it had concerns about the industry’s affordability checks because more guarantors were having to cover payments. Scrutiny has sharpened after the collapse of Wonga last year and QuickQuid last month.

It's that FCA move that worries me about Amigo.

Without a guarantor and given the credit ratings of those borrowing there is no way that such a 50%-ish interest rate will be high enough. But if the credit checks have to be toughened up so that fewer guarantors are called upon, I don't think the current campaign against high rates will allow a higher one - not without more regulatory pressure. That is regardless of whether the loan book shrinks considerably or the interest rate must rise to much higher levels.

My view

Simply put, I think the economic space in which such lending can take place is going to get regulated away. Those who are against these high interest rates simply don't care that they're necessary to cover the risks and repayments. We can see that from the way they've driven other companies like Wonga out of business. Economic reality, the desire of borrowers: These don't matter compared with the moral righteousness of the campaign to outlaw high interest rates.

Further, as someone who knows rather a lot about British politics, I think the campaigners are going to win.

The investor view

I don't see how Amigo survives into the medium term, not with the political action going on. I don't know how long it's going to take therefore I'm not recommending a short position. But I expect Amigo to trend to zero as its current business model is regulated away.

Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.