Subprime Storm Clouds on the Horizon

The automotive finance industry has been riding a five year high with an average 8.30 percent year-over-year increase in unit sales from 2011 to 2015, according to data from Wards Auto. With the rapid pace of automotive industry growth lending requirements loosened, longer term loans became the norm and subprime lending skyrocketed.

With key market indications shifting, everyone is watching the market carefully, poised to tighten lending requirements. According to Experian, average new vehicle loan terms increased to 67 months in 2015, while used vehicle loan terms increased to 63 months. This has resulted in a significant growth of negative equity on car notes.

According to the NADA Used Car Guide (NADA UCG), the percent of originations, including trades that carried negative equity, increased year-over-year by 2 percent. In addition, NADA UCG also stated that based on data from J.D. Power’s PIN Network, of the cars that had an equity position in 2015 and 2016, the trade-in value decreased by 50 percent. In Q1 of 2015, the average trade-in value for a car was $1,000. By Q1 of 2016, the average trade-in value had decreased to $500.

While trade-in values are falling, so too are used car prices. In fact, NADA predicts used car prices to fall between five and six percent this year as more off-lease vehicles enter the market. Lastly, Q1 delinquency rates topped one percent this year, the highest Q1 rate since 2011, according to TransUnion, jumping 13 percent year-over-year.

All together, these market changes point to clouds on the horizon and smart lenders are evaluating when and by how much to tighten lending requirements to protect their portfolios. However, there are some steps lenders can take now to protect themselves down the road, including offering finance products on their loans, like a vehicle service contract or vehicle return. These programs allow lenders to maintain a proactive risk management strategy rather than a reactive one by helping to reduce delinquency and therefore repossession and collection costs.

Consider, for example, the inevitable event of a subprime consumer making their monthly car loan payment and suddenly experiencing a vehicle breakdown. How likely do you think they will be able to pay for costly mechanical repairs and make their loan payment? And, if you were that consumer, which of those needs would you prioritize? You’d most likely prioritize fixing the car so you can continue commuting to work. Then what happens? The car becomes delinquent, right?

Or, consider what would happen if that same consumer lost their job. How would they continue to pay for their car without steady income? Sounds like another delinquency waiting to happen.

With consumer protection products like a VSC or vehicle return, your auto loans have material protection against the risk of delinquency or default. A VSC has the potential to reduce costly mechanical repairs to manageable deductible, allowing the customer to repair their vehicle and make their loan payment. Vehicle Return provides protection for consumers against unexpected life events, such as involuntary job loss, allowing them to return their vehicles to the selling dealership with no negative repercussions to their credit, eliminating your repossession costs.

Besides helping to protect your loan portfolio from increased risk, consumer protection products have the potential to increase your loan volume. They differentiate your loans with dealers by giving them the ability to further increase dealership profit through the sale of upgrades, and they differentiate your loans and your dealer partners with consumers seeking to protect their investment.

Protect your institution today with a partner like EFG Companies. We know how to develop the right mix of products and services to mitigate risk while making your loan more attractive to dealers and consumers. Contact us today to find out how.