By Ray Birch
SCOTTSDALE, Ariz.—Is “Carmageddon” on the horizon?
For some lenders it is, asserts one analyst, who believes credit unions won’t feel the impact as much as others from rising delinquencies and a marked slowdown in new car sales during 2018 and beyond.
But in the coming years what credit unions must pay attention to, said Steve Williams, partner at Cornerstone Advisors, is using analytics to:
- Better assess delinquencies
- Price car loans and adjust lending standards
- Target the right borrowers to achieve maximum portfolio growth
In addition, Williams joined with at least one other analyst in warning that credit unions must diversify their revenue streams to avoid relying so heavily on auto loans to grow.
“There is a plateauing now of auto loan growth, because rates on short-term loans can only go up—maybe as much as two percentage points in the next two years—and that will impact how much car people can afford,” said Williams. “We have already stretched out the terms and loan to values as much as we can.”
Sales Decline
Vehicle sales in 2017 totaled 17.23 million units, non-seasonally adjusted, marking the first year-over-year sales decline since 2009.
Where Carmageddon will areujw hardest, asserted Williams, is the subprime market, with much fewer borrowers and rapidly rising delinquencies. There will be a spillover effect on credit unions, with delinquencies rising and issues arising from car sales slowing and a plateauing of loan growth, he said.
“Clearly there has been vibrant auto lending over the last five years,” said Williams. “But two trends are concerning. The first is the growth of the subprime auto market and what we are seeing in the (declining) performance of subprime lenders. This group is seeing much higher delinquencies than banks and credit unions. It appears as if this segment of the market has peaked—meaning the percentage of subprime loans among all car loans has leveled off, if not gone down. Subprime borrowers have accounted for one-in-four of every car loan and that percentage was headed even higher. However, the fervor in the private equity/securitization world for subprime paper has started to wane as delinquencies rise so quickly among this segment.”
Along with the concern in the subprime space, Williams is worried about the extension of terms.
“I think four in five cars are financed beyond 60 months,” he said. “The common terms today are 72 and 84 months. This has given consumers not only a lower monthly payment but encouraged them to buy more car. Consumers have reached the point as to how much car they can afford.”
As interest rates rise in the next two years, Williams said that borrowers won’t have any more levers to pull to keep affording a new car.
“We have seen this growth in auto lending and extension of terms with rates as low as they can go, but income has not gone up,” said Williams. “The question is what happens when rates go up to our ability to keep volume up if income is not growing?”
Williams believes the situation will lead borrowers to hold onto their cars longer. He also said that shocks to the economy could worsen the outlook.
“If there were some global shock to the economy, from a slowdown or from a war or both, we could see a material rise in delinquencies on the credit union side as well,” said Williams.
'Getting By'
He explained that while many credit union borrowers are A and B paper, a sizeable portion have extended—if not overextended—themselves on car loans with the long terms and are “just getting by.”
“So every credit union should assume that many of their members are spinning plates when it comes to their ability to repay debt,” said Williams, who also noted the record debt level of Americans today. “Credit unions need to be very diligent in looking for early warning signs of trouble among all of their borrowers.”
Williams insisted that credit unions use analytics to “slice and dice” the different parts of their portfolios and learn where to tighten standards now.
“I have a lot of credit union lenders tightening, but you really want to be using analytics to know where to tighten,” he explained. “So if we find, for example, there are certain characteristics within our 660-680 FICO borrowers, originating a certain type of deal and having twice the delinquencies, we can start to tighten credit tiers more intelligently.”
Credit unions, too, should be relying on analytics to keep their auto loan portfolios growing, Williams said.
“I think profitable growth will go to those who are very precise with data, with how they price and look at risk,” said Williams, who is concerned that credit unions in recent years have relied too heavily on auto lending to grow and that they must diversify the revenue stream. “An all boats are rising and auto sales are over 17 million a year won’t be the environment we will face in the next couple years. It is going to take greater precision to succeed. The success will go to those who have precision around risk management and precision about where to price and grow with a diversified revenue stream.”