As per recent reports, a top banking regulator warned that the $1 trillion auto loan industry is gradually getting pretty dangerous in 2016. There is unprecedented growth in auto loans, shrinking values of cars, and a sharp rise in auto loan delinquencies, as per the Office of the Comptroller of the Currency. The banking watchdog also emphasize the cut-throat competition within the banks which finally led them to make the underwriting standards more lenient than before.
Risks in auto lending keep growing and the OCC stated in its annual report mentioning the details of the key risks that are faced by the US banks. Neither did the OCC call out the names of specific banks which are threatened by auto loan lending issues nor did they mention that this issue might pose to be a great risk to the financial system at large. Nevertheless, the report echoes certain concerns which have been raised by others regarding car loans, particularly the subprime or the low-quality ones. Jamie Dimon, JP Morgan Chase boss recently opined in an industry conference that auto lending looks stretched despite the banks being careful about issuing them.
Soaring delinquencies on car loans
Earlier in 2016, Fitch Rating pointed out the fact that the rate of delinquent subprime auto loans has reached its highest level since 1996. The volume of auto loans recently exceeded $1 trillion, a figure that is up by more than 45% from the latter half of 2009. What is the reason behind this statistic? Well, Americans are seen to have to buy a large number of cars, with sales hitting a record high level since 2015. Since cars have become more expensive, the loan amounts are also bigger and the defaults too. Wells Fargo and Ally Financial are 2 of the largest providers of auto loans in America.
The OCC warned that the banks may face bigger losses from sub-prime auto loans and they may require setting aside enough money to cushion themselves against those losses. Some risk management practices of lenders have not kept pace with the increasing risk and growth in portfolios. There is too much indirect auto lending where banks offer cash to dealers to lend to people who are about to buy cars and this is yet another risky area that can watch out for ‘significant fair lending risk’.
Comptroller of the Currency Thomas Curry had once again raised the red flag previously about auto loan ending warning the lenders that some activity in auto lending reminded him of what took place in mortgage-backed securities in the run-up for the crisis. Auto lending has recently seen a sharp rise than before due to the lower interest rates, strong consumer demand, and cheap gasoline prices. During the financial crisis too, the auto loans performed relatively well and market watchers interpreted this as the sign that the car loans are safe enough as cash-strapped people too had to pay for transportation costs. Auto lenders also have a simple time collecting collateral on a defaulting auto loan by repossessing the car just as they do foreclose on a house that is covered by a bad mortgage loan.
So, it is important to remember that auto loans don’t seem to pose the systemic risk which mortgage loans did before they started facing the Wall Street meltdown in 2008. Overall, auto loans make up a smaller universe of lending as compared to mortgages. Banks too are even pretty stronger to deal with any possible losses due to auto loan defaults.