Is there such a thing as a “subprime car loan bubble” brewing? Both Jamie Dimon (J.P Morgan boss) and comedian John Oliver seem to think so. While dedicating nearly 18 minutes of a recent episode of his show “Last Week Tonight” to auto loans, Oliver said:
“There is concern that this could be the subprime mortgage crisis, but with cars,”
The critique stems from what’s being perceived as the “fast and loose” credit policies that many used car dealers are adopting – eerily similar (according to Oliver) to what mortgage lenders did in the years and months leading up to the subprime crisis.
Mr. Dimon too was very clear about what he thinks about what’s happening with auto loans:
"Auto is clearly a little stretched, in my opinion…Someone is going to get hurt. ... “
So what’s really going on here? Are we really standing at a precipitous auto loan cliff, just waiting to fall over? Is there a bubble that’s about to explode in the car loan world? Is there more happening underneath than meets the eye? Should we be bracing ourselves for the other auto loan shoe to drop?
LESS THAN WHAT MEETS THE EYE
Not so says Melinda Zabritski, Experian’s director of Automotive Finance. According to Zabritski, while there are some concerning elements of subprime loans within the car loan industry:
"We're not seeing this big, undisciplined increase in subprime"
Mike Jackson, CEO of Auto Nation overwhelmingly agrees with Zabritski’s assessment. According to Jackson, the issue seems to have been overblown by the financial media, taking it out of context. To put things into perspective, Jackson noted that, of the over $12 trillion in consumer debt outstanding, only $900 billion relates to auto debt.
His argument against the idea of an “auto loan bubble” is based on the fact that auto loan defaults are significantly low (compared to home loans) because these loans are lower than mortgages, credit card debt and even student loans. Bottom line, according to Jackson:
“People Pay Their Auto Loans!"
And while many analysts sounding the “bubble alarm” warn institutions against extending subprime auto financing, Zabritski points out that for some borrowers, these loans are really a lifeline – enabling them the mobility needed to (travel to areas where better jobs exist and) seek improvement in their economic situations. The logic therefore is, once they stabilize their financial situations, the risk of defaulting on their subprime auto loan reduces.
DIFFERENCES BY THE NUMBERS
Late last year (2016), Fitch reported that annualized losses from subprime auto loans are ticking higher – over 27% higher in the month of August when measured on an annual basis. Fitch has predicted that we would see subprime auto loan losses surpass the 10% mark heading into 2017
However, the securitization of sub-prime auto loans also differs vastly from those of mortgages. While almost all mortgages are securitized, only a fraction, around 19% (roughly $23.3 billion), of the $125 billion in subprime auto loans are securitized.
Experts also point out that legal processes related to recovery of defunct auto loans is very different than that followed for subprime mortgages. Even after a rather protracted repossession process, once the lender goes get possession of the (often abandoned and neglected) home, it has lost most of its book value. With subprime auto loan delinquencies, that’s not the case – automobiles are almost immediately repossessed, and monetized, shortly after defaulting on repayment.
It may therefore be that there are no parallels – or at least not as many perfectly comparable ones – between the subprime mortgage crisis and the ongoing subprime auto loan situation. In any case, there may not be the type of underlying structural problems between the two types of sub-primes. In fact, while warning that there may be an issue here, Mr. Dimon admitted that he didn’t see “a systemic issue” in the subprime auto lending arena.