Best of the Week
Most Popular
1.Spain Ignores Scotland Lesson as Catalan Independence Referendum Could Spark Civil War - Nadeem_Walayat
2.Used Car Buying From UK Dealer Top Tips, CarMotion.co.uk Real Customer Experience - N_Walayat
3.Spanish New Civil War Begins as Madrid Regime Storm Troopers Quell Catalan Independence Rebellion - Nadeem_Walayat
4.Virgin Media Broadband Down, Catastrophic UK Wide Failure! - Nadeem_Walayat
5.Are the US Markets setting up for an Early October Surprise? - Chris_Vermeulen
6.The Pension Storm Is Coming To Europe—It May Be The End Of Europe As We Know It -John_Mauldin
7.Stock Market Crash 2018; Will it Prove to be Another Buying Opportunity - Sol_Palha
8.The Profoundly Personal Impact Of The National Debt On Our Retirements - Dan_Amerman
9.Stock Market as Good as it Gets; Like 2000 With a Twist -Gary_Tanashian
10.1987 Stock Market Crash 30th Anniversary Greatest Investing Lesson Learned - Nadeem_Walayat
Last 7 days
This Super Metal Is Set To Soar By 300% - 23rd Oct 17
More New Record Highs As S&P 500 Gets Closer To 2,600 Mark - 23rd Oct 17
Another Minor Stock Market Top? - 23rd Oct 17
Bitcoin Hits $6,000, $100 Billion Market Cap As Helicopter Ben and Jamie Demon Warn The End Is Near! - 22nd Oct 17
Time for Caution in Gold Miners - 22nd Oct 17
“Great Rotation” Ahead; Will it Be Inflationary or Deflationary? - 21st Oct 17
The Trigger for Volatility, Rates and the Next Crisis - 21st Oct 17
Perks to Consider an Agent for Auto Insurance - 21st Oct 17
Emerging Megatrends Hurting Consumers - 21st Oct 17
A Catalyst of the Stock Market Bubble Bust - 21st Oct 17
Silver Stocks Comatose - 21st Oct 17
Stock Investors Ignore What May Be The Biggest Policy Error In History - 20th Oct 17
Gold Up 74% Since Last Stock Market Peak 10 Years Ago - 20th Oct 17
Labour Sheffield City Council Employs Army of Spy's to Track Down Tree Campaigners / Felling's Watchers - 20th Oct 17
Stock Market Calm Before The Storm - 20th Oct 17
GOLD Price Creates Bullish Higher Low - 20th Oct 17
Here’s the US’s Biggest Vulnerability in NAFTA Negotiations - 20th Oct 17
The Greatest Investing Lesson Learned from the 1987 Stock Market Crash - 20th Oct 17
Stock Market Time to Go All-in. Short, That Is - 19th Oct 17
How Gold Bullion Protects From Conflict And War - 19th Oct 17
Stock Market Super Cycle Wave C May Have Started - 19th Oct 17
Negative Expectations, Will the Stock Market Correct? - 19th Oct 17
Knowing the Factors Affect your Car Insurance Premium - 19th Oct 17
Getting Your Feet Wet In Crypto Currencies - 19th Oct 17
10 Years Ago Today a Stocks Bear Market Started - 19th Oct 17
1987 Stock Market Crash 30th Anniversary Greatest Investing Lesson Learned - 19th Oct 17
Virgin Media Broadband Down, Catastrophic UK Wide Failure! - 19th Oct 17
The Passive Investing Bubble May Trigger A Massive Exodus from Stocks - 18th Oct 17
Gold Is In A Dangerous Spot - 18th Oct 17
History Says Global Debt Levels Will Lead to Another Crisis - 18th Oct 17
Deflation Basics Series: The Quantity Theory of Money - 18th Oct 17
Attractive European Countries for Foreign Investors - 18th Oct 17
Financial Transcription Services – What investors should know about them - 18th Oct 17
Brexit UK Vulnerable As Gold Bar Exports Distort UK Trade Figures - 18th Oct 17
Surge in UK Race Hate Crimes, Micro-Racism, Sheffield, Millhouses Park, Black on Asian - 18th Oct 17
Comfortably Numb: Surviving the Assault on Silver - 17th Oct 17
Are Amey Street Tree Felling's Devaluing Sheffield House Prices? - 17th Oct 17
12 Real-Life Techniques That Will Make You a Better Trader Now - 17th Oct 17
Warren Buffett Predicting Dow One Million - Being Bold Or Overly Cautious? - 17th Oct 17
Globalization is Poverty - 17th Oct 17
Boomers Are Not Saving Enough for Retirement, Neither Is the Government - 16th Oct 17
Stock Market Trading Dow Theory - 16th Oct 17
Stocks Slightly Higher as They Set New Record Highs - 16th Oct 17
Why is Big Data is so Important for Casino Player Acquisition and Retention - 16th Oct 17
How Investors Can Play The Bitcoin Boom - 16th Oct 17
Who Will Be the Next Fed Chief - And Why It Matters  - 16th Oct 17
Stock Market Only Minor Top Ahead - 16th Oct 17
Precious Metals Sector is on Major Buy Signal - 16th Oct 17
Really Bad Ideas - The Fed Should Have And Defend An Inflation Target - 16th Oct 17
The Bullish Chartology for Gold - 15th Oct 17
Wikileaks Mocking US Government Over Bitcoin Shows Why There Is No Stopping Bitcoin - 15th Oct 17
How to Wipe Out Puerto Rico's Debt Without Hurting Bondholders - 15th Oct 17
Gold And Silver – Think Prices Are Manipulated? Look In The Mirror! - 15th Oct 17

Market Oracle FREE Newsletter

3 Videos + 8 Charts = Opportunities You Need to See - Free

Subprime Auto Loans: the Next Financial Crisis Shoe to Drop?

Interest-Rates / Financial Crisis 2016 Mar 22, 2016 - 08:17 PM GMT

By: Mike_Whitney

Interest-Rates

Booming auto sales have more to do with low rates and easy financing than they do with the urge to buy a new vehicle.  In the last few years, car buyers have borrowed nearly $1 trillion to finance new and used autos.  Unfortunately, much of that money was lent to borrowers who have less-than-perfect credit and who might not be able to repay the debt. Recently there has been a surge in delinquencies among subprime borrowers whose loans were packaged into bonds and sold to investors. The situation is similar to the trouble that preceded the Crash of 2008 when prices on subprime mortgage-backed securities (MBS) suddenly collapsed sending the global financial system off a cliff.  No one expects that to happen with auto bonds, but story does help to illustrate that the regulatory problems still haven’t been fixed.


In a recent article in the Wall Street Journal, author Serena Ng uses the performance of a bond issue called Skopos Auto Receivables Trust to explain what’s going on. She says:

“The bonds were built out of subprime auto loans and sold in November. Through February, about 12% of the underlying loans were at least 30 days past due, a third of which were more than 60 days delinquent. In another 2.6% of loans, borrowers had filed for bankruptcy or the vehicles had been repossessed.”  (“Subprime Flashback: Early Defaults Are a Warning Sign for Auto Sales“, Wall Street Journal)

Check out those dates again. If a loan, that was issued in November, is 60 days delinquent by February, it means the borrower never even made the first payment on the debt. How can that happen unless the lender is deliberately fudging the underwriting to “slam the sale”?

It can’t, which means that dealers are intentionally lending money to people they know won’t be able to pay them back.

But why would they do that?

It’s because they know they can offload the crappy loans on Mom and Pop investors looking for a slightly better rate of return than they’ll get on ultra-safe US Treasuries. That’s the whole nine-yards, right there.  Selling vehicles is just a cover for the real objective, which is creaming big profits off toxic paper that will eventually sell for pennies on the dollar. Ka-ching!

The problem is NOT subprime borrowers who pay much higher rate of interest on their loans than more creditworthy customers.  The problem is dodgy lenders who game the system to line their own pockets. That’s the real problem, and the problem is getting more serious all the time. According to the WSJ:

“The 60-plus day delinquency rate among subprime car loans that have been packaged into bonds over the past five years climbed to 5.16% in February, according to Fitch Ratings, the highest level in nearly two decades. The rate of missed payments is higher for loans made in more recent years, a reflection of more liberal credit standards and the larger number of deals from lenders serving less creditworthy customers, according to Standard & Poor’s Ratings Services…

“What’s driving record auto sales is not the economy, but record auto lending,” said Ben Weinger, who runs hedge fund 3-Sigma Value LP in New York and who has bearish bets on some auto lenders. He said demand for auto debt has led lenders to systematically loosen underwriting standards, which he predicts will result in higher loan delinquencies.” (WSJ)

“Liberal credit standards”??  Is that what you call it when you lend thousands of dollars to someone who someone who doesn’t have a job, an address or a credit card?

Sheesh.

While it’s true that delinquencies are rising, it’s not true that subprime borrowers don’t pay their bills. They do, in fact, subprime lending can be extremely lucrative provided lenders do their homework. But when a lender is merely the middleman in a larger transaction, (like when the debt is bundled into a bond and sold to Wall Street) he has no incentive to make sure that everything checks out. His goal is to grind out as many loans as possible and let the investor worry about the quality. After all, what does he care if the loan blows up or not?  It’s no skin off his nose.

Keep in mind, the auto dealers really clean house on these garbage loans too. The average rates on these turkeys exceed 20 percent while loan duration typically lasts for about 6 years.  That’s a serious chunk of money drained directly from the paychecks of the poorest and most vulnerable people in society; the same people who are stuck forever in low-paying service sector jobs that barely pay enough to keep food on the table or gas in the tank. These are the victims in this loan-sharking swindle, the people who desperately need a car to get to work to feed their kids, and then find themselves shackled to a long-term obligation that just makes matters worse. Here’s more from the WSJ:

“Before making loans, Skopos said it verifies information, including borrowers’ employment and whether they actually made cash down payments. For those with no credit score, it looks at alternative metrics, like how they pay phone bills. “We interview every customer before we fund the loan,” Skopos CEO Daniel Porter said, adding that individuals with no credit histories are often young working adults who are more motivated to keep making payments.”

They check to see if they pay their phone bills? That’s what they call “underwriting”? What a joke!

By now you’re probably wondering how this whole subprime nightmare resurfaced just 8 years after Wall Street blew up the financial system? Wasn’t Dodd-Frank supposed to fix all that?

Sure, it was, but the powerful auto lobby in Washington managed to carve out a special exemption for themselves that allows them to shrug off the new reforms and continue the same risky behavior as before.   That’s why this auto-loan scam has morphed into a ginormous Hindenburg-like bubble that poses a looming threat to financial stability. It’s because the big money guys twisted a few arms on Capital Hill and got what they wanted.  Money talks. Here’s more from the WSJ:

“Banks had $384 billion of auto loans on their books at the end of last year, but households had auto-loan balances of over $1 trillion, according to Federal Reserve data. Indeed, Fitch Ratings warned last week that delinquencies of over 60 days on securities backed by subprime auto loans hit almost 5% in January. That is the highest since September 2009 and close to the record peak hit that same year.

Rock-bottom interest rates and record-breaking car sales have combined to put auto lending into overdrive, making some skids inevitable. While those should be more than manageable for the banking system, individual firms that went too fast into the curve by lowering underwriting standards may have a rougher ride.” (“Why Auto Lenders Are in for a Rougher Ride“, Wall Street Journal)

You know what comes next, don’t you? The delinquencies start piling up, the finance companies begin to creak and groan,  the banks and other counterparties hastily selloff assets to try to stay afloat, and, finally, the Fed rides to the rescue with another batch of emergency loans to prevent the  whole wobbly, over-leveraged system from crashing to earth.

Of course, we could just pass legislation that made it a criminal offense to intentionally issue loans to anyone who fails to meet strict, government-approved underwriting standards. But then we’d never have these excruciating economy-busting financial crises anymore.

And what fun would that be?

By Mike Whitney

Email: fergiewhitney@msn.com

Mike Whitney lives in Washington state. He is a contributor to Hopeless: Barack Obama and the Politics of Illusion (AK Press). Hopeless is also available in a Kindle edition. He can be reached at fergiewhitney@msn.com.

© 2016 Copyright Mike Whitney - All Rights Reserved Disclaimer: The above is a matter of opinion provided for general information purposes only and is not intended as investment advice. Information and analysis above are derived from sources and utilising methods believed to be reliable, but we cannot accept responsibility for any losses you may incur as a result of this analysis. Individuals should consult with their personal financial advisors.

Mike Whitney Archive

© 2005-2017 http://www.MarketOracle.co.uk - The Market Oracle is a FREE Daily Financial Markets Analysis & Forecasting online publication.


Post Comment

Only logged in users are allowed to post comments. Register/ Log in

Catching a Falling Financial Knife