As I reported here a few weeks ago, following up on a story originally broken here, the federal government took it upon itself to try to kill legitimate businesses by choking off their banking access.
Operation Choke Point was originally targeted at payday lenders such as First Cash Financial Services (FCFS), Cash America (CSH), DFC Global (DLLR), QC Holdings (QCCO) and EZCorp (EZPW). Since then, other sources have reported that the program targeted pornography producers and actors, online gaming companies, and gun and ammunition manufacturers.
Regardless of your own personal feeling towards any of these businesses, every American should be disturbed that the federal government is trying to kill legal businesses simply because it doesn’t like them.
However, last week, the payday lenders fought back.
Payday Lenders – The Situation
Advance America (the largest payday lender in the U.S.) and the Community Financial Services Association of America (a trade association) filed suit against the FDIC, the Office of the Comptroller of the Currency (and Thomas Curry, the Comptroller of the Currency, personally), and the Federal Reserve in a civil action.
The complaint seeks declaratory and injunctive relief against all of the above, setting aside their “unlawful regulatory actions … on the grounds that they exceed the agencies’ statutory authority, are arbitrary and capricious … and deprive the plaintiffs of liberty interests without due process of law.”
And, boy, are they right.
The excuse the federal agencies have used in all of these cases, according to the complaint, is their use of “safety and soundness” regulatory authority exposes the banks to “reputation risk,” arising from “negative public opinion.”
Just so we’re clear, payday lending has endured overwhelming negative publicity for 20 years.
Per “safety and soundness,” the worst financial crisis in history was caused by mortgages, and that payday lending (and the other industries) has never given any bank anything other solid cash flow. So, forget that.
Moreover, the complaint alleges that the agencies have not given banks “any objective criteria for measuring negative public opinion or … for determining when [a business] is sufficiently unpopular to present an unacceptable level of reputation risk.”
Sources were afraid to go on the record with me for fear of reprisal, but the complaint alleges the same things they told me:
“On information and belief, the Defendant agencies have employed a variety of back-room pressure tactics against regulated financial institutions, including warning them that continuing their relationships with payday lenders will result in harsh and prolonged examinations, reduced examination ratings, and/or other punitive measures.”
As a result, more than 80 banks have cut off their relationships with law-abiding payday lenders. The ones that remain are charging much higher fees as they now control the market.
Read the entire complaint. It is an outrage that individuals in the federal government are engaging in this behavior.
Click to Enlarge Don’t take it from me, or even the payday lenders. The American Bankers Association complained about this to the Department of Justice months ago, as the accompanying letter, sent to me by the ABA and published here for the first time, indicates.
That’s the situation.
Payday Lenders – The Plays
As an investment website, of course, the question now is: how can you profit?
The banks aren’t at tremendous risk here. They caved to the feds, and they are generally gigantic banks for which the revenue loss is not material. If anything, Wells Fargo (WFC) appears to be in the catbird seat, as it is the one major bank not listed in the complaint as having cut off the payday lenders. It might be the one charging heftier fees. But, then again, WFC is so massive that it can afford to do so. Little banks like Hancock Banks, a subsidiary of Hancock Holding Company (HBHC), Synovus Bank of Synovus Financial Corporation (SNV) and others can’t afford to tell the Feds to pound sand.
I think this marks a partial inflection point for the above-mentioned payday lenders. They likely have found banks that will do business with them, albeit at greater cost. The PR embarrassment for the agencies is only going to increase from here, and I think the case has tremendous merit. It might take years to resolve, but cases seeking injunctive relief tend to move more quickly. If they are successful in getting their injunction, that helps.
However, the industry is awaiting rules from the CFPB that some fear will severely curtail the revenue generated from the payday loan product. On the flip side of that, though … most of the public companies have so diversified their revenue streams that impact will not be as great as it once was. First Cash has the smallest exposure to domestic payday (5% of revenue). Cash America has exposure in the teens.
Clarity from the CFPB will clear up uncertainty and the revenue revisions will be issued by analysts. I think the clarity is more likely to provide a boost to the stocks, followed by either another boost if the impact isn’t too severe, or a drop if it is.
For now, I’d either suggest you wait and see on all of these companies, perhaps buying calls if you are so inclined. First Cash has the least risk and is a buy, although it is a bit expensive at this time.
As of this writing, Lawrence Meyers did not hold a position in any of the aforementioned securities. He is president of Asymmetrical Media Strategies, a crisis PR firm, and PDL Broker, Inc., which brokers financing, strategic investments and distressed asset purchases between private equity firms and businesses. He also has written two books and blogs about public policy, journalistic integrity, popular culture, and world affairs. Contact him at firstname.lastname@example.org and follow his tweets at @ichabodscranium.