This article first appeared at The McAlvany Intelligence Advisor on Monday, January 12, 2015:
There’s little doubt that Karen Weise enjoyed her weekend. Back in August she tried to raise concerns about the bubble in auto financing, but couldn’t pin them down. A reporter for Bloomberg Businessweek in Seattle, all she could find back then were Fed spokesmen pooh-poohing concerns that too many broke people were getting car loans, that such fears were “misplaced,” that “it’s unlikely the composition of auto loan originations in our data will radically change since last year,” as New York Fed spokesman Matthew Ward put it.
She quoted four economists from the New York Fed who were unanimous:
We do not see evidence supporting a disproportionate or unusual volume of new loans being issued to riskier borrowers….
They are just approaching historically “normal” levels and are below those that we saw during the boom years leading up to the [Great Recession].
Still, she smelled a rat, and ended her article:
Even if next week’s report [from the Fed] confirms there’s still no bubble, that doesn’t mean there’s nothing to worry about.
On Thursday the Wall Street Journal confirmed her suspicions: yes, there is a sub-prime auto loan bubble; yes, regulators and credit agencies have taken notice; yes, the Justice Department is issuing subpoenas to lenders. In a word, Karen was right to be suspicious back in August. According to the Journal:
Borrowers who took out auto loans over the past year are missing payments at the highest level since the [Great Recession], fueling concerns among regulators, analysts, and some in the car industry that practices that helped boost 2014 light-vehicle car sales to a near-decade high could backfire.
Subprime auto loans are made to people who have low credit scores – below 620 – but with five and six and seven-year paybacks, the typical 20 percent interest rates usually charged still allow them to buy more car than they can afford.
Just ask Patrina Thomas. When she decided in the summer of 2013 that it was time to trade in her 11-year-old Jeep for a newer car, she went back to her local friendly Chrysler dealer in Syracuse, New York. They saw her coming. By the time dust had settled, Thomas, whose credit score qualified her for “special” financing, was the proud owner of a 2008 Chrysler Sebring, and a monthly payment of $385. She had trouble making that payment almost from the first month, and by last summer she just gave it up. Her Sebring was repossessed, having a street value of just $4,600 but a note balance of $7,600. She was upside down to the tune of three grand. Said Thomas:
Now my credit is ruined. I can’t buy a house for a while.
When she applied for a loan through Chrysler Capital, she wasn’t turned down. She was just referred to their “special financing” arm: Santander Consumer USA Holdings. This was the old Sovereign Bank of Boston that got in trouble during the recession and was absorbed into the maw of the Spanish Santander Group.
Having failed to learn anything from history, the old Sovereign Bank – now the new Santander bank – is now suffering the predictable consequences. As the Journal noted, among all those who used “special financing” – i.e., subprime loans – to buy a vehicle in the first quarter of 2014, more than 8.4 percent of them had missed at least one payment by November. This, according to Equifax, the credit-reporting agency, was the highest level since 2008. Such sub-prime financing represented one in five loans in 2009, but has since risen to nearly one in four, just under the peak hit in 2007 that approached nearly one in three.
One of the 15 biggest U.S. auto lenders, Santander’s percentage of delinquent auto loans in the third quarter was, according to SNL Financial, 16.7 percent. That’s one in every six loans. Santander isn’t alone. Ally, another major player in the subprime auto loan business, reported on September 30 that $355 million of its outstanding consumer car loans were “non-performing” and they were taking a charge-off of $341 million of them. That charge-off is up 18 percent from a year earlier.
Growth in sub-prime auto lending has virtually exploded just in the last two years, from $809 billion in 2011 to more than $943 billion as of last September.
But all of this is normal and expected and nothing to worry about if one listens to the industry shills. They have been quick to brush aside any concerns about another bubble. First, the auto-loan industry is less than $1 trillion, compared to the $10 trillion real estate mortgage at the start of the Great Recession. Second, auto loan debt is only about 20 percent higher than it was prior to the start of the recession. Third, each loan is collateralized by the financed vehicle, and there is an active after-market for those that are repossessed, although, as Thomas found out, at a severe discount to what she thought her Sebring was worth.
At Santander, the beat goes on. Their website now is targeting Americans getting their tax refunds, hoping they will convert them into down payments on new vehicles:
Now that we’ve gone from holiday season to tax season, it’s time for millions to go … shopping for a new vehicle with the money they receive in their tax refunds. Will you be one of those shoppers in 2015?
According to Santander, tax refunds for 100 million Americans averaged $2,700 last year and they are expected to top $3,330 this year. As Santander effuses:
That’s enough to cover about half the 20 percent down recommended by financial experts on a $25,000-$30,000 new or used vehicle….
Santander is positively salivating over the potential:
More than 20 percent of those who expect to spend their refunds on something vehicle related … will use the money toward purchase of a new or used car.
That comes to about 10 million vehicles….
That being said, you still probably have questions on how to use your tax refund to buy a vehicle. That’s where we hope to help….
Much has been written about the lessons of history and how most people learn nothing from history. George Santayana put it this way: “Those who cannot remember the past are condemned to repeat it.” Some think it should be changed to read: “Those who will not remember the past….”
Perhaps the best lesson learned from history is this:
Those who don’t study history are doomed to repeat it. Yet those who do study history are doomed to stand by helplessly while everyone else repeats it.
Santander blog: Tax refund your key to a new vehicle?
Karen Weise in August: No, There’s Not a Bubble in Subprime Auto Loans