A Closer Look at Auto ABS and Investment Opportunities

A Portion of U.S. Consumers Seem Stressed Out, So Is This What Everyone is Looking for as the Canary in the Coal Mine?

A Closer Look at Auto ABS & Investment Opportunities

Subprime Auto Loan Borrowers Are Acting More Stressed Than They Did During the Great Financial Crisis

Despite the resilient employment numbers in the U.S. economy, it’s difficult to ignore the fundamentals of certain asset types we con- stantly monitor, most specifically subprime auto loans. Looking back at historical auto loan delinquencies since 2000, in the chart below, prime auto loans performed relatively well during the Great Finan- cial Crisis (“GFC”), whereas subprime auto loans spiked from ~0.5% in the first half of 2007 to ~1.5% by the beginning of 2009. The sub- prime auto loan delinquency rate recovered back down to a post-GFC low of ~0.5% in the middle of 2011, but then gradually creeped higher towards ~1.6% by the beginning of 2020 (pre-COVID). COVID-19 re- lated stimulus payments, from the U.S. Government, assisted in drop- ping the delinquency rate back down to ~0.7% in the middle of 2021. However, now that the subprime borrowers are facing a tremendous amount of headwinds from higher cost of living, higher interest rates, and no further stimulus payments from the U.S. Government, their delinquency rates in the first quarter of 2023 have been experiencing new highs (with a peak since of ~1.8% as of the end of February 2023) since the beginning of 2000.

What’s interesting about their poor performance is that U.S. borrow-ers have repeatedly demonstrated that they are more likely to skip pay-ments on medical debt and credit card debt versus missing payments on their auto loan/lease or primary residence. The chart below shows that auto loans/leases have the lowest ratio of missing payments over the six months prior to January 2023 compared to the percent of respondents holding each type of debt at such time. This helps explain why prime auto delinquencies continue to hold up well.

Auto Loans Have Larger Balances and Longer Terms

As we look at the various factors that are potentially causing such weakness in the subprime auto Asset-Backed Securities (“ABS”) sector versus other sectors, it’s important to note how much the nominal val- ue of used vehicles have increased over the past 20+ years. Although many other goods often become more economical over time (such as flat-screen televisions and mobile phones), used vehicle values have grown at a very rapid rate since the GFC. However, used vehicle values exploded at an unsustainable growth rate resulting from the COVID-19 related stimulus payments and supply chain issues causing insatiable demand coupled with unprecedented inflationary conditions.