Auto loan standards toughened by banks
- Banks are tightening their lending standards for prime and subprime auto loans.
- Some of this tightening is already showing in the data. For example, the average maturity of new vehicle loans peaked in the first quarter of 2017 at 67.4 months.
- Another hurdle facing the auto industry is that banks are also gradually tightening their auto lending standards.
Banks have started to tighten lending standards for blue chip and sub-prime borrowers, and it shows.
Banks are further tightening their lending standards for prime and subprime auto loans. This process began in the second quarter of 2016, when auto loans reached the peak of loose underwriting, which boosted new and used vehicle sales to record levels and pushed up outstanding auto loan balances. to $ 1,000 billion. It also increased the risks for lenders. Inevitably, subprime auto loans started to run into trouble in 2016, and it was time not to completely throw the last bit of caution into the wind.
The chart below – based on Fed data Survey of senior loan officers on bank lending practices for the third quarter – shows the net percentage of banks tightening lending standards. Negative percentages below the red line signify marked easing. This shows how loan officers have gradually, in spurts, reduced their flexibility before Q2 2016 and accelerate their tightening after Q2 2016:
In the third quarter of 2017, 10% of banks tightened underwriting conditions compared to the previous quarter, but 0% relaxed underwriting conditions. In other words, the tightening is done gradually, bank by bank, and the easing has come to a complete stop.
“Banks have reportedly tightened most of the conditions studied for auto loans,” the report said. Specifically, here are some of the terms banks tightened in the third quarter, adding to bank tightening in previous quarters:
- 7% net tightening of conditions on minimum down payments required.
- 5% net tightening of conditions on credit scores
- Net 8% tightening in lending to clients below credit rating thresholds
In a series of special questions, the October survey asked why banks are changing credit standards or terms for subprime and risky borrowers “this year.” The reasons were almost the same for blue chip borrowers and subprime borrowers, but subprime is clearly the biggest concern. Here’s what the banks have said about their reasons for tightening lending standards for sub-prime borrowers:
- Less favorable or more uncertain economic outlook: 50% fairly high; 30% very important.
- Deterioration or expected deterioration in the quality of your bank’s existing loan portfolio: 30% fairly significant; 40% very important.
- Reduced risk tolerance: 30% fairly high; 50% very important.
- Less favorable or more uncertain expectations regarding collateral values [used vehicle values]: 40% fairly high; 40% very important.
- Lower or more uncertain resale value of these loans on the secondary market: 33% very high; 0% significant enough.
Some of this tightening is already showing in the data. For example, the average maturity of new vehicle loans peaked in the first quarter of 2017 at 67.4 months, according to
The data. Data for the third quarter is not yet available, but in the second quarter, the average maturity fell to 66.5 months, the first significant drop since 2011.
Notice on the left side of the graph how the average maturity plunged during the financial crisis as credit froze and auto sales plummeted, and it was difficult to finance anything:
But the tightening has yet to manifest itself in total auto loan outstanding, which jumped $ 19 billion in the third quarter, likely boosted by the first batch of hurricane replacement sales.
What has emerged is a massive adjustment of the data going back to Q4 2015. As I am keeping the old data, I have overlaid the unadjusted prior data (red line) and the current adjusted data (blue columns) in the graphic below. The adjustment retroactively wiped out $ 39 billion in auto loan balances in the fourth quarter of 2015. By the first quarter of 2017, the adjustment had wiped out $ 41 billion:
Data adjustment happens all the time. These are estimates that can be wrong, and sometimes adjustments are made to try and get them back on track. But it shows that auto loans did not suddenly plunge in Q4 2015, as the chart based on blue columns alone would have otherwise indicated.
Another hurdle facing the auto industry is that banks are also gradually tightening their auto lending standards. Hurricanes, destroying or damaging a few hundred thousand vehicles, created a demand for temporary replacement of new and used vehicles, funded in part by insurance companies.
This replacement demand now masks the underlying industry issues that are limiting demand:
- Too much auto debt
- Too much ‘negative equity’ in vehicles after years of loose lending, making negotiation difficult
- Price of new vehicles that have become inaccessible
- And income which is stagnating for a large part of the population.
And those headwinds will still be there once the demand for hurricane replacement subsides.
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