Renowned investor Kevin O’Leary just warned that the U.S. has a “crisis emerging” because of the pace of interest rate hikes, noting these are not only impacting consumers, but small businesses as well.
“We have a crisis emerging,” he told Fox News, according to MoneyWise. “These rapid rate hikes that have occurred and the unprecedented speed of these hikes has put my small businesses [in a difficult position]… The cost of capital has gone through the roof.”
Following a short breather — with a pause in June after 10 consecutive rate hikes — the Federal Reserve increased its rates for the eleventh time since March 2022 after its two-day Federal Open Market Committee (FOMC) July meeting. The Fed raised interest rates by 25 basis points, taking the benchmark borrowing costs to their highest level in more than 22 years.
Experts Speak Out on Continued Rate Hikes
“The continued rate hikes we’ve seen are impacting both consumers and business owners directly and indirectly,” said Michael Micheletti, CMO for Unlock Technologies. “Directly, we know that the cost of credit goes up for any variable-rate debt you have in your portfolio. In simple terms, if you have any debt on a credit card — whether you’re a consumer or a small-business owner — the interest rate has been climbing… in fact, it’s now over 21%. So monthly payments will go up.”
Micheletti added that when rates climb, the appetite for risk declines at the creditor and banking levels, which means it becomes harder for individuals (and businesses) to qualify for more debt.
“For small businesses that may need to take on more debt to grow, this can become a problem and stymie that growth.”
Data Supports Business Credit Standards Tightening
And this is reflected in the data: A full 76% of small businesses say that rising interest rates are limiting their ability to raise capital or finance their business, a 10-percentage point increase since last quarter, according to a recent U.S. Chamber of Commerce report.
As Frost Investment Advisors’ president, managing director and chief investment officer, Mace McCain, noted, the SLOOS survey [Senior Loan Officer Opinion Survey on Bank Lending Practices] shows credit standards for loans to small businesses have been tightening considerably over the last year.
McCain also noted that the National Federation of Independent Business (NFIB), small business survey also shows small businesses being negatively affected by tighter credit and higher interest rates.
“Small businesses are disproportionately hurt by rising rates due to often borrowing at floating rates. Larger companies can tap the bond market which is overwhelmingly fixed rate and, hence, not immediately affected by rising rates.”
How Do Rate Hikes Impact Small Business?
“Certainly, small businesses are feeling the pinch, and I completely agree with Kevin’s observations,” said Joe Camberato, CEO of NationalBusinessCapital.com. “While there are still pockets of opportunity, they’re becoming increasingly elusive and trickier to secure financing.”
For instance, Camberato explained that the SOFR (secured overnight finance rate) rate is sitting at 5.3%, and the prime rate has climbed to 8.5%. Normally, if you secure a business loan from a bank, he said, the bank tacks on an additional 2-4% to the SOFR or prime rate.
“That means, if you’re looking at a prime rate plus 3% arrangement, your interest rate would hit 11.5%. Remember, that’s just for starters if you’re dealing with a traditional bank,” he added.
What’s more, even with these towering rates, small businesses are struggling to get loans from banks.
“Things get even hairier with regional banks,” he said, as many of the regional banks are grappling with a serious crunch in deposits.
“Money is flowing out, and the value of their commercial real estate investments, particularly in office spaces, has taken a hit. So, the upshot is that bank lending is in a timeout,” he added. “This is the lay of the land right now. As for when bank lending will regain its mojo and rates will soften again — your guess is as good as mine. I’m in the thick of this day in and day out, and I still can’t pin down whether it’s two years, three years, or five years down the road.”
Several experts agree with the premise that with tight lending, the immediate future will remain arduous for small businesses.
“The gears of commerce are lubricated with credit. When credit is unavailable, interest rates soar and production grinds to a halt,” said Will Luther, director of The American Institute for Economic Research’s Sound Money Project. Luther indicated that, unfortunately, there’s not much more that small businesses can do at this late stage in the Fed’s tightening cycle.
“They are trying to weather the storm — but some of them won’t make it.”
So What Can Small Businesses Do To Survive?
Take a hard look at budgets.
Consumers and small business owners alike need to take hard, critical looks at their budgets (and short-term cash flow), finding ways to cut any and all fat out. They need to do so now, not later, said Micheletti.
“This is the time for people to know exactly what their rates are on all credit/debt obligations, and figure out how to pay them down as quickly as possible.”
Focus on growth.
Camberato echoed the above sentiment, saying you need to know your numbers — and that you should wrap your head around your return on investment (ROI).
“If you’re going to dive into borrowing with these steep rates, be sure it’s worth it. Don’t let the high rates scare you off completely; there are still growth opportunities,” he added. “Sometimes, diving into higher rate waters can make more sense than selling equity. The bottom line is: If you’re going to saddle yourself with debt in this climate, put that money to work, put it toward growth.”
Go into “turtle mode.”
The only way a small business can truly protect itself from these rate hikes is to go into “turtle mode,” said Howard Dvorkin, CPA and chairman of Debt.com.
“Shelve plans to expand your business unless you’re damned sure you can outrun these rate hikes. Focus on efficiency instead of growth. Lock down your current client base so your numbers become predictable enough to weather the storm — and hope like hell the storm passes quickly.”
According to Dvorkin, Kevin O’Leary is even more right than he thinks.
“Yes, small businesses are begging for financing. But even worse, our nation’s next generation of entrepreneurs are being sidelined. They can’t launch new businesses in this high-rate environment. The long-term implications are even scarier than O’Leary’s current warnings.”
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