The Office of the Comptroller of the Currency, one of the alphabet soup of agencies regulating banks, has issued its latest report on bank risk. It sees signs that the auto loan business may be getting a little too exuberant. Outstanding loans shot up 13% in the fourth quarter of 2013 vs. the previous year.
You can see that in strong auto sales, which recently grew at their fastest rate since 2007, and have been one of the economy’s bright spots.
But the OCC cautions that more car buyers are clearly stretching. Here’s a chart from the report showing what’s happening with charge-offs. Lenders of all types are taking bigger baths when loans go bad.
The OCC says that more loans are being pushed based on their low monthly payments, which generally means loan periods are getting longer and puts borrowers further “upside down,” owing more than the car is worth. Data from Experian also show that “deep subprime” loans, to borrowers with credit scores below 550, increased from 2% of the market to 3%. Total subprime and “nonprime” loans are 34% of the market, up just a touch from last year.
The OCC says it hasn’t seen a major drop in the quality of bank loan portfolios yet. And a wave of subprime auto lending wouldn’t seem to lend itself to the kind of systemic danger that subprime mortgages did. Car prices aren’t inflating and forcing everyone to take bigger and bigger loans. And when your neighbor gets his wheels repossessed, that’s not going to have any impact on your ability to pay off your own car, the way that foreclosures spread through neighborhoods and towns like a virus.
But there are two reasons to keep an eye on this. First, a race by lenders into subprime is likely to mean more predatory lending tactics on car lots, putting people who are already financially precarious under pressure. Borrowers with poor credit don’t just pay higher rates but often other hidden costs, too. Here’s David Dayen in Salon sounding the alarm about subprime lending last year:
Also, there’s a fair chance if you own a bond fund, especially one that invests in high-yield or “junk” bonds, that you actually own some of these loans. Yes, just like with mortgages auto loans can be pooled together and turned into tradeable bonds. And in today’s low-rate environment, Bloomberg reports, auto loan bonds have been quite popular as investors reach for yield. Wall Street seems to regard this stuff as a fairly safe bet. That always ends well.