Subprime borrowers are falling behind on their car loan payments at the highest rate in more than six years, and some bonds backed by these loans are vulnerable to getting downgraded, according to S&P Global Ratings.
Competition has spurred lenders to loosen standards and resulted in more delinquencies and default by people with weak credit, the ratings firm said. Subprime borrowers were behind by more than 60 days on about 4.85 percent of auto loans in August, the highest level since January 2010. The rate was 4.14 percent in August of last year, S&P said. For prime loans, delinquencies in August rose to 0.5 percent from 0.41 percent in the same month in 2015. The figures apply to loans that have been bundled into bonds.
The ratings firm said it may have to downgrade some subprime auto loan securities that have high-yield grades because of the increased delinquencies and loan losses, a statement it first made last month.
Some investors believe that subprime auto loans will continue to deteriorate, and have looked for ways to bet against them. After the financial crisis, mortgage lenders have been required by law to verify that applicants can repay their debt, but car lenders do not have that obligation. In the 12 months ended in June, only 5.2 percent of car loan applications were rejected, down from 11.1 percent in the 12 months ended in October 2015, according to research from the Federal Reserve Bank of New York. Lenders are making longer-term loans than before, and used car prices have fallen, which also could hurt loan recoveries, S&P said on Tuesday.
‘Intensely Competitive’
"The auto industry has also become intensely competitive, which has led to price competition, loosening of credit standards, and higher charge-offs," S&P said. U.S. car sales have been growing for six years, but the growth rate is showing signs of slowing after a record 2015.
Losses on risky subprime loans rose to 8.35 percent in August, the highest since 2010. That takes into account the amount lenders are recovering by repossessing and reselling defaulted borrowers’ cars. Some of the poor performance can be blamed on smaller, inexperienced lenders and newer finance companies that entered the market for the first time in recent years, according to Fitch Ratings. Losses may "pierce" 10 percent by year-end, it said last month.
The rising delinquencies and losses come even as the U.S. economy is relatively strong. More workers started seeking employment last month, which is often a positive sign for the job market even if it also leads to a near-term increase in the unemployment rate. Federal Reserve Bank of Chicago President Charles Evans said on Tuesday that unemployment can likely fall further.
This article was provided by Bloomberg News.