Not This Again

Sloppy Subprime Loans Will Deepen Auto Woes

This isn't the mortgage crisis redux, but it comes at a bad time for the industry.
Photographer: Daniel Acker

It's no secret the auto-loan business has been going gangbusters in the past few years.

But it's surprising to learn just how lax lending standards have become as firms jostle for market share.

Bloomberg News reporter Matt Scully highlighted on Monday how Santander Consumer USA Holdings, one of the biggest subprime auto lenders, double-checked incomes for just 8 percent of the borrowers of loans they packaged into bonds. That's an unusually low verification rate among the bigger auto lenders, and compares with a 64 percent rate in a recent loan securitization sold by General Motors Financial Co.'s AmeriCredit unit.

Steep Drop

Investors have sold shares of Santander's U.S. lending arm as delinquencies and losses rise

Source: Bloomberg

A May 17 report from Moody's Investors Service said "Santander's pool has a higher proportion of loans with a combination of risky terms, poor borrower credit and no income verification" relative to some peers. Moody's looked at specific, loan-level information made available for the first time, thanks to new reporting requirements under Regulation AB II

While Santander may be an outlier among some of the bigger auto lenders, there are dozens of independent lenders, several of which have also been engaging in some questionable lending practices. So this isn't an isolated incident. 

At first blush, this is eerily reminiscent of some of the practices leading to the 2008 crisis, when lenders had notoriously lax underwriting standards. In the years before the worst financial fissure since the Great Depression, lenders let consumers pack on more mortgage debt than they could reasonably expect to pay back. That ended very badly.

This time is different in some respects. The pool of auto loans is substantially smaller than the amount of mortgage debt outstanding at its peak. Also, there aren't nearly as many derivatives and leverage built up around these auto loans. And car loans mature in much shorter periods of time, with principal amounts much lower than those of mortgages.

Some Perspective

While auto debt is growing, it's nowhere near the amount of mortgage debt outstanding

Source: Federal Reserve Bank of New York

But there will be some significant consequences. Loose auto-lending standards have already contributed to higher-than-expected loss and delinquency rates. This has put auto manufacturers in a difficult position at a difficult time. Even as auto sales slow more than analysts predicted, lenders are having to set more money aside to offset increasing losses and delinquencies.

Sales Decline

Automakers are facing a slowing pace of sales amid a deterioration in consumer credit

Source: WARD's Automotive Group

Either manufacturers' lending arms and independent financing firms must stop lending so much to less-creditworthy consumers, and perhaps settle for a smaller share of business, or they'll have to absorb bigger losses down the line.

Even without these issues, U.S. automakers face a sea change in their industry due to the rise of electric and self-driving cars. Ford Motor Co., for example, just replaced its chief executive with a turnaround specialist in order to better address such tensions. Meanwhile, big car companies must keep managing their primary businesses at a time when the credit cycle is starting to sour.

This is a relatively new dynamic for the post-crisis U.S. economy, which counted on automakers to help fuel the recovery. As Jim Vogel of FTN Financial Capital wrote Monday, rising loan losses and delinquencies create "just enough question marks to leave you wondering about how robust the recovery is if you scratch the surface."

The more signs of sloppy lending practices emerge, the more likely it becomes that the auto industry is heading for a deeper decline than many expect.

This column does not necessarily reflect the opinion of Bloomberg LP and its owners.

    To contact the author of this story:
    Lisa Abramowicz in New York at

    To contact the editor responsible for this story:
    Mark Gongloff at

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