Auto Loans: A Silent Bubble Continues to Get Bigger Lombardi Letter 2017-11-28 17:05:24 auto loansautomakersfederal reservefinancial crisissub prime borrowersfederal reserve bank of new yorkfinancial crisis Auto loans bubble continues to get bigger. Now, even the Fed is warnings about issues in it. Here’s the full story, and what it could mean or auto makers. News,U.S. Economy

Auto Loans: A Silent Bubble Continues to Get Bigger

U.S. Economy - By |
Auto loans

Auto Loans Ballooning As Delinquency Rises

There’s one bubble silently inflating, and investors seem to be ignoring it: auto loans. If troubles brew further, it could have dire consequences. If you hold automaker stocks, you might want to pay extra attention to this.

You see, automakers and lenders got desperate after the financial crisis. Then they found a trick that could result in higher sales and higher loans.

Lenders started to extend the length of the loans. This reduced the monthly payment on the cars. As they were doing this, they also started to give loans to borrowers with not-so-great credit–the subprime borrowers.

This gave a boost to auto sales. and auto loans in turn.

Look at the chart below, which shows auto sales in the U.S. since the financial crisis:

Auto Loans Bubble - Auto Sales

(Source: “Light Weight Vehicle Sales: Autos and Light Trucks,” Federal Reserve Bank of St. Louis, last accessed November 16, 2017.)

From an annual rate of just above nine million cars in late 2009, the rate now stands close to 18 million. Car sales have almost doubled since the financial crisis.

Now, look at the chart below of auto loans:

Auto Loans Bubble - Auto Loans Amount

(Source: “Motor Vehicle Loans Owned and Securitized, Outstanding,” Federal Reserve Bank of St. Louis, last accessed November 16, 2017.)

Auto loans currently stand at $1.1 trillion. Since the financial crisis, they have soared close to 60%.

The Problem?

Now we are seeing delinquency rates on auto loans increase.

Regarding what’s happening in the auto loan market, even the Federal Reserve Bank of New York is ringing warning bells.

The senior vice president at the New York Fed, Wilbert van der Klaauw, said, “Examining the auto loan market more closely revealed notable differences between auto finance and auto bank lenders. Delinquency rates among auto finance lenders are considerably higher and rising, especially for subprime borrowers, in part reflecting differences in underwriting standards.” (Source: “Total Household Debt Increases, Delinquency Rates of Several Debt Types Continue Rising,” Federal Reserve Bank of New York, November 14, 2017.)

To provide some perspective, at the end of the third quarter of 2017, almost 7.4% of all auto loans were delinquent for 30 days or more. (Source: “Quarterly Report on Household Debt and Credit 2017Q3 (Released November 2017),” Federal Reserve Bank of New York, last accessed November 16, 2017.)

What’s Next?

Dear reader, let me ask one question: If the delinquency rates on auto loans continue to increase, will the auto loan lenders be able to give out more loans? Understand this: higher delinquency rates could result in lower auto loan originations.

For proof, look at the housing market back in 2006–2007. As default rates soared, banks’ mortgage lending almost halted.

With a lower number of auto loans given out, do you really think automakers could sell more cars? It’s highly unlikely.

With this, let me ask another question: If automakers aren’t selling cars, will their stock prices remain as high as they are these days? This, too, is highly unlikely.

We will know more as additional data comes in, but things are not looking so bright for automakers and the auto loan market. This bubble is like a ticking time bomb, and it’s worth paying close attention.

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