Current Conditions in Automobile Lending

April 30, 2015
By Kelly D. Edmiston, Senior Economist


As the economy has improved following the 2007-09 recession, so have auto sales and lending. The most recent issue of the Kansas City Fed’s Consumer Credit Reports (Third Quarter, 2014) provides a brief analysis of this significant increase in auto purchasing and borrowing. This Community Connections article expands that analysis and discussion.

During the recession, automobile sales in the United States declined sharply (Chart 1). In the depths of the recession in February 2009, U.S. autos sold at an annualized rate of 9.0 million (light vehicles, seasonally adjusted), well below the mid-2005 peak annualized rate of 20.6 million.1 The reduction in sales of new autos had the effect of increasing the average age of autos on the road from 9.8 years in 2005 to 11.4 years in June 2014, the latest date for which data are available.2

As the economy has improved following the 2007-09 recession, so have auto sales and lending. The most recent issue of the Kansas City Fed’s Consumer Credit Reports (Third Quarter, 2014) provides a brief analysis of this significant increase in auto purchasing and borrowing. This Community Connections article expands that analysis and discussion.

During the recession, automobile sales in the United States declined sharply (Chart 1). In the depths of the recession in February 2009, U.S. autos sold at an annualized rate of 9.0 million (light vehicles, seasonally adjusted), well below the mid-2005 peak annualized rate of 20.6 million.1 The reduction in sales of new autos had the effect of increasing the average age of autos on the road from 9.8 years in 2005 to 11.4 years in June 2014, the latest date for which data are available.2

The increased average age of autos on the road has increased the need for replacement, stimulating demand in recent years. Auto sales have increased significantly since the 2009 trough, reaching an annualized rate of 17.1 million (seasonally adjusted) in November 2014. By February 2015, the annualized rate of auto sales had decreased moderately to 16.2 million, about average over 2000-15.

Increased auto sales have resulted in increased outstanding loan balances. Total auto debt increased 36 percent from a recession-era low of $702 billion in the second quarter of 2010 to $955 billion in the fourth quarter of 2014.3 Leasing also is at record levels, accounting for more than 30 percent of new auto financing in the most recent data.4 About 84 percent of new cars are financed, either through a purchase loan or a lease, with the remainder purchased with cash.5

Financing for autos mostly flows through a finance company or a bank. Finance company loans typically are arranged by an auto dealer (indirect loans).6 In the fourth quarter of 2014, outstanding auto-related debt was about evenly distributed between banks and finance companies.7 The number of auto loans outstanding since the 2009 trough has increased 7.7 percent. In addition, the average balance of outstanding auto loans has increased 17.0 percent.

The average outstanding balance on Tenth District auto loans from a finance company was $17,084, versus $16,137 from a bank (Chart 2).8 Auto loan balances have increased significantly from late 2009, when the average outstanding balance was about $14,000 for both finance company and bank loans. The increase in average outstanding balance is largely due to a greater share of outstanding auto loans having been made relatively recently, which comports with the increase in sales creating a younger loan stock.9 Consumers also may be purchasing more expensive cars, reflecting increased income and economic security. In the fourth quarter of 2014, the average loan on a new car (at origination) was $28,381, up $950 from one year earlier and $582 from the previous quarter.10 The average loan for used cars at origination increased $437 to $18,411.

Chart 1: Auto Sales

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While auto lending has increased, delinquencies have declined. The District automobile loan delinquency rate, which was more than 9.0 percent in the third quarter of 2009, has declined in every quarter since, reaching 7.6 percent in the third quarter of 2014.11 The delinquency rates on loans from finance companies and banks were significantly different. In the third quarter of 2014, the delinquency rate was 10.2 percent for finance company loans and 3.5 percent for bank loans. The difference in the two delinquency rates largely reflects risk a lender is willing to bear. In most cases, auto dealers and their associated lenders, typically finance companies, accept greater risks than banks, such as those resulting from making loans to consumers with poor credit histories.

Auto loans made to the riskiest borrowers, as determined by credit score, are often termed subprime auto loans. Experian defines borrowers with credit scores between 601 and 660 as nonprime and 501-600 as subprime (using the Experian VantageScore). In the fourth quarter of 2014, nearly 39 percent of newly originated auto loans were made to below-prime borrowers, with roughly half of those made to subprime or “deep subprime” (credit score below 500) borrowers.12 Subprime lending has increased in recent quarters, but the subprime loan share has remained below 2007-08 levels.13 The increase in subprime auto debt primarily is tied to the overall increase in auto lending and some weakening of credit standards by auto lenders.14 The Consumer Finance Protection Bureau (CFPB) suggests that some (typically indirect) auto lenders compensate lenders for marking up established lender buy rates.15 The CFPB recently has increased its monitoring of the auto finance market, particularly the subprime market, looking at compensation from dealers to indirect lenders based on loan terms and whether interest rate markups are reasonable.16

Following the severe recession (and at times a tepid recovery), a rise in auto debt, and therefore auto sales, suggests consumers are gaining confidence in their economic fortunes and are more willing to purchase relatively expensive durable goods. The decrease in auto loan delinquency rates supports this supposition. Nevertheless, auto debt, and other forms of consumer debt, can be a problem if it grows rapidly to unsustainable levels. Further, as auto dealers and financial institutions seek new buyers and new borrowers, there is a danger that loan terms will deteriorate. It will be necessary to monitor data on subprime auto lending, along with general lending trends, to ensure a quick response to potential consumer debt problems.

Chart 2: Outstanding Auto Loan Balance

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References

[1] Author’s calculations using data from the U.S. Bureau of Economic Analysis.

[2] R.L. Polk & Co., a subsidiary of IHS Automotive.

[3] Federal Reserve Bank of New York, The Center for Microeconomic Data. Accessed April 28, 2015. Primary data is from the Federal Reserve Bank of New York Consumer Credit Panel/Equifax.

[4] Melinda Zabritski, “State of the Automotive Finance Market Fourth Quarter 2014,” Experian Automotive. Accessed April 28, 2015.

[5] Melinda Zabritski, “State of Automotive Finance.” Experian Automotive.

[6] Some finance companies making auto loans are “captive,” meaning that they are a subsidiary of the auto manufacturer. Non-captive lenders, including commercial banks, often finance autos through dealers, as well. Auto dealers may be able mark up the finance company’s interest rate. See Consumer Finance Protection Bureau (CFPB), CFPB Bulletin 2013-02, “Indirect Auto Lending and Compliance with the Equal Credit Opportunity Act,” March 21, 2013. Accessed April 28, 2015.

[7] Cristian Deritis, “Cars and Cards Drive Increases in Household Debt,” Moody’s Analytics, Jan. 28, 2015. Accessed April 28, 2015.

[8] Author’s calculation using data from the Federal Reserve Bank of New York Consumer Credit Panel/Equifax.

[9] TransUnion, “Auto Delinquency Rate to Marginally Increase in 2015; Debt Levels to Continue Rising Trend.” Dec. 16, 2014. Accessed April 28, 2015.

[10] Melinda Zabritski, “State of Automotive Finance.” Experian Automotive.

[11] Author’s calculation using data from the Federal Reserve Bank of New York Consumer Credit Panel/Equifax.

[12] Melinda Zabritski, “State of Automotive Finance.” Experian Automotive.

[13] Cristian Deritis, “Is U.S. Auto Lending About to Bubble Over?” Moody’s Analytics, Aug. 12, 2014. Accessed April 28, 2015.

[14] Cristian Deritis and Pedro Castro, “Is Auto Lending Doomed?” Regional Financial Review, Moody’s Analytics, March 25, 2015.

[15] CFPB, supra note 5.

[16] Prepared remarks of CFPB Director Richard Cordray at the Auto Finance Field Hearing.