Lending Curve
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Recently, both Experian and Equifax stated that a subprime bubble has not formed because of the lending community’s control over the pace of market expansion. However, neither entity recommends loosening credit standards, but rather maintaining control or even tightening restrictions as the year plays out. This places limits on traditional means for subprime lenders to compete. However, a more level market also means there is more opportunity to gain prime consumers while balancing risk.
In the same way that many prime lenders welcomed subprime consumers in the aftermath of the Great Recession, smart subprime lenders are looking to expand in the near-prime and prime spaces. In fact, Equifax found that over a three-year time period, consumers with deep subprime credit scores who took out a subprime auto loan were four times more likely than those without an auto loan to improve their score to a level above 640. In aggregate, subprime consumers with auto loans improved their credit score by a median of 52 points, which is a 62.5% improvement over the median score change of the group that did not take out a loan.
However, for dealers, keeping those customers is no small feat. Ask yourself the question: how am I helping my dealer partners in their customer retention efforts?
This starts from the very moment the dealer contacts the lender to initiate an auto loan. With consumers demanding a shorter car buying process, F&I mangers need swift loan approvals to keep the process moving. So ask yourself, how am I facilitating quick approvals?
Throughout 2013 and 2014, we’ve seen new auto loan originations skyrocket. In addition, average loan amounts have increased and the subprime market has steadily expanded. While the industry does not expect the same growth in the next few years, the auto retail market is expected to at least maintain current sales levels. Now, subprime lenders are evaluating how to securely expand their market-share over the next few years without significantly increasing risk or creating a “bubble”.
According to a recent Equifax report, subprime loans currently account for about 32 percent of approved auto originations – the highest level since 2008. However, dealers and lenders still rely on traditional algorithms like the relationship between credit score, debt-to-income ratios, and vehicle value to maintain the stability of their portfolios.
During the recession, auto lenders learned that a sole focus on these criteria did not prevent a rise in delinquencies. For example, according to Equifax, the industry saw a rise in default rates among borrowers with good credit scores, while those with lower scores were making payments to improve their credit.
In this post-recession era, lenders are now trying to expand their algorithms to better qualify consumers. Among other criteria, lenders are increasing the importance of income verification, employment tenure, pay frequency and the possibility of employment disruption in their qualification process.
By taking more information into consideration, lenders can more accurately determine appropriate rates, terms and deal structures. In addition, they can work more effectively with F&I producers trying to secure a loan for someone who may have demonstrated they can make their loan payments, but with challenged credit.
In the end, this all boils down to beating the competition on reaching the right consumers with a compelling offer. While re-addressing algorithms may allow lenders to more effectively structure deals with F&I producers and allow for a broader base of subprime paper, lenders can further protect their portfolio and increase their perceived value among dealers and consumers with complimentary F&I products.
Complimentary F&I products have the potential to reduce risk by addressing the consumer’s ability to make their loan payments when life takes a turn. For example, consider a consumer rebuilding their credit and savings who may be living paycheck to paycheck. For this consumer, a deviation from their monthly budget can challenge their ability to make a car payment. Products such as vehicle service contracts and vehicle return protection can stand in the gap to help consumers pay their car loans when the unforeseen occurs.
Whether it’s an unexpected mechanical repair or a life event, products like a VSC or vehicle return can help the consumer, the dealer and the lender. Loans offering complementary products for a limited term, provide the dealers F&I department an opportunity for upsell to greater terms and/or coverages to meet consumer needs.
The more opportunities a lender provides a dealer to structure deals, help consumers and make profit, the more likely that dealer will use that lender. The combination of utilizing more sophisticated algorithms to create smart deals, along with valuable, complementary F&I products with upsell opportunities, provides the dealer with the necessary tools to sell more cars profitably and the lender the opportunity to grow a more protected volume of loans.
As you re-evaluate your position in the market and your expansion strategy, consider making your loans more secure and more profitable for both you and your dealer partners with the right F&I products.
With almost 40 years of experience in developing market-differentiating consumer protection products, EFG Companies knows how to expand your market share while protecting your loan portfolio. Contact us to find out how today.
