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Mark Rappaport President Simplicity Division EFG Companies

Contributing Author:
Mark Rappaport
Simplicity Division
EFG Companies

The Federal Reserve recently signaled a pause in raising interest rates, citing concerns about a slowing global economy and sluggish consumer spending. However, these two economic factors have been countered by strength in labor numbers and strong consumer spending in the first quarter. When asked, economic prognosticators and financial pundits say the economy reflects the lens through which it is viewed.

From a lender’s perspective in the automotive space, there are some unique mitigating factors. New vehicle prices continue to rise, pricing some consumers out of the market. Even with relatively low interest rates available for prime buyers, loan terms extended to upwards of 84 months leave consumers uncharacteristically exposed.

For those consumers who pivot away from a new vehicle toward a low mileage used vehicle, the picture is not much better. Low inventory and steadily rising used car prices put prime buyers in competition with traditional sub-prime buyers. Even used car auctions have seen a rise in general consumers willing to take a risk on untested vehicles.

These micro-economic issues do not reflect the macro-economic concerns of tariffs, lengthening loan terms and default exposure.  A record 7 million Americans are 90 days or more behind on their auto loan payments, as reported by the Federal Reserve Bank of New York in February. This number is higher than during the wake of the financial crisis. Some economists warn that this is a red flag.

Given these factors, what levers are available for an auto lender trying to increase an auto loan portfolio?

Managing the Levers

According to, the average interest rate on new-vehicle financing reached 6.3 percent in February 2019, the highest since February 2009 and an increase of more than 1 percentage point from a year earlier. A shortage of low, or no interest rate, deals in the new-vehicle market drove the average loan interest to a 10-year high last month. Reeling from sticker shock, one obvious option is to opt for a lower-cost, economical vehicle. However, the same Edmunds research showed that most customers weren’t willing to buy a new compact or midsize vehicle, rather than a truck or SUV, to lower their payments.

Down Payment Lever

So, if your customer is dead-set on purchasing the vehicle of their dreams, what options are available? One option is to increase the down payment. This trend has begun, with the average down payment increasing 6.6 percent to $4,187, according to Edmunds. The average amount financed in February reached $32,071, up 2.4 percent from last year, consistent with consumer preference for trucks and SUVs.

Loan Term Lever

Lengthening the terms of the loan is another option. While the average loan length stayed steady at 69 months, according to Experian, some subprime loans reached 84 months. A longer loan term certainly reduces the monthly payment – and the risk of default.  The longer loan terms can pose a challenge to a healthy loan portfolio.

Consumer Education Lever

Educating consumers on the value of improving credit scores is another lever available to lenders. Better credit scores equal better interest rates and APR. A bad or subprime credit score of roughly 501-600 points results in the consumer easily paying twice the average APR on a new-vehicle loan. This means thousands more in finance charges.

Consumer Protection Products Lever

Smart lenders are getting out of the APR race altogether by making their loans more valuable to consumers with complimentary consumer protection products, like limited lifetime powertrain protection and vehicle return protection. Consumer protection products have the potential to insulate auto loan portfolios from the risk of delinquency or default while also providing lender a market-differentiating value add to increase loan volume.

Navigating the squeeze between interest rates, vehicle prices, and loan terms will likely not get any smoother in the second half of this year. However, there are several levers available to the patient lender willing to evaluate each deal.

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