Subprime Auto Loan Delinquencies at Financial Crisis Levels

Subprime auto loan delinquencies have exploded, taking the overall delinquency rate to Financial Crisis levels. But the economy is supposedly great. What is causing this spike in delinquencies?

According to the latest data released by the New York Fed, serious delinquencies (90 days or more past due) surged by 15.5% in the fourth quarter of 2019 to a record high of $66 billion.

Seriously delinquent auto loans now make up 4.94% of the record $1.33 trillion in total loans and leases outstanding. This may not sound like a huge number, but it is higher than the delinquency rate was in Q3 2010 when the auto industry was collapsing in the midst of the worst unemployment crisis since the Great Depression. The delinquency rate peaked in the fourth quarter of 2010 at 5,27% of outstanding loans. We’re approaching that record high.

The big problem is in the subprime sector. (A subprime borrower is defined as somebody with a credit score under 620.) According to WolfStreet, about 22% of all outstanding auto loans qualify as subprime, totaling about $293 billion. Of that total, $66 billion are 90 days or more delinquent. In other words, 23% of subprime auto loans are seriously delinquent – nearly a quarter of all subprime loans.

There is another layer to this that should be flashing warning signs.

Many of these subprime auto loans have been packaged into asset-backed securities (ABS), similar to what was done with subprime mortgages in the years leading up to the housing crash. We started to see problems with subprime auto loans back in 2018. As Bloomberg noted at that time, the pain among small auto lenders “parallels with the subprime mortgage crisis last decade, when the demise of finance companies like Ownit Mortgage and Sebring Capital Partners were a harbinger that bigger losses for the financial system were coming.”

Things have only deteriorated since then. Subprime loan ABS are now experiencing record delinquency rates. In January, the subprime 60+ day delinquency rate for the auto-loan ABS rose to 5.83%, according to Fitch Ratings. That ranks as the highest rate for any January ever and it was the third-highest rate for any month. As this chart by WolfStreet shows, it’s higher than any delinquency rate during the Financial Crisis.

You will also see from the chart that prime auto loan delinquencies are at historic lows. So, the question remains, why are we seeing record delinquencies at the bottom end of the spectrum? Unemployment levels are low. Typically, we see delinquency levels like this when the job market is weak.

As with so many things in the economy that are out of whack, the problem can ultimately be traced to the loose monetary policy of the Federal Reserve. WolfStreet explains.

It’s how aggressive the subprime lending industry has gotten, and how they’ve been able to securitize these loans and selling the ABS into heavy demand from investors who have gotten beaten up by negative-interest-rate and low-interest-rate policies of central banks. These investors have been madly chasing yield. And their demand for subprime-auto-loan ABS has fueled the subprime lending business.”

Artificially low interest rates work on both sides of the equation. It makes subprime lending possible and it creates demand from investors to package these loans into ABS. As a result, banks are giving loans to more and more riskier borrowers. More risky borrowers lead to more delinquencies and defaults.

Like all bubbles, the auto loan bubble will pop just like the housing bubble popped. The collapse of the subprime auto market probably won’t have the same impact on the economy as the housing crash did in 2008. The industry isn’t as big in terms of dollars. But what’s going on in the auto industry is indicative of broader trends in the US economy.

As WolfSteet put it, this is all the result of reckless auto-lending “aided and abetted by yield-chasing investors piling into subprime auto-loan-backed securities because they offer a little more yield in an era of central bank engineered financial repression.”

It’s a sign like so many others in this economy, that the whole credit spectrum has gone haywire over the years. Thank you, Fed, for having engineered this whole thing with your ingenious policies. So now there’s a price to pay – even during good times.”