Fitch: ABS Stable, Will Focus on Wholesale and Underwriting in 2015

Fitch Ratings expects auto ABS performance to remain stable in 2015, but will focus on two specific areas in the coming year – softer used vehicle values and the overall condition of the wholesale vehicle market, and underwriting standards – according to its 2015 Outlook: U.S. Structured Finance report released last week.

An increase in vehicle trade-ins and lease vehicle returns will put pressure on loss severity and move loss rate higher, according to Fitch’s report.

“We’ve seen softer wholesale vehicle prices in the market for some time now, but we expect this to continue and drive losses higher,” John H. Bella, Jr., managing director, U.S. asset-backed securities at Fitch, said in a taped interview.”For example, Manheim, for five straight months, was showing decline in their index, until a recent uptick in October,” he said.

In the lease sector, the number of vehicle returns is expected to increase by over 10% in 2015 versus 2014, which, combined with high vehicle trade-in volume expected in 2015 given new vehicle sales expectations, will continue to pressure used vehicle values throughout the year, the report says.

Fitch further wrote that it will focus on manufacturers’ ability to effectively manage production, inventory, and incentive levels, given the pressure from a higher used vehicle supply in 2015.

“We’ve seen incremental weakening in Fico scores, we’ve seen incremental weakening in LTVs, and we’ve certainly seen extended terms for a considerable amount of time now,” Bella said. “In 2015 we’ll be seeing how much more, incrementally, these pools weaken, particularly the weakest bucket, of these three elements.”

The reason, Bella explained, is because if there is increasing or weakening in any of those three elements, combined with the fact that wholesale markets are softer, losses will accelerate.  However, when asked if decline in underwriting for the subprime space will accelerate in 2015, Bella said that because there has been acute competition in the subprime space for a few years now, the negative characteristics mentioned above nothing new.

Subprime losses are expected to rise to 8%−10%, according to Fitch’s forecast, but remain below peak rates recorded in the recessionary 2008−2010 period. Loss levels should be consistent with 2005-2006, making the subprime performance outlook for 2015, stable.

Bella said that coming year will bring a few other areas of acceleration though, such as consolidation, specifically citing the demise of Condor Capital and its portfolio that is currently being shopped in the market. Private equity exiting the space is a possibility in 2015, at least in some capacity, according to Bella, and the new year may see further scrutiny from U.S. regulatory agencies, particularly in the subprime space.

That scrutiny, Fitch wrote, may drive operational costs up for lenders, and could affect origination, underwriting and servicing practices.

“Subprime lenders may be forced to invest in their compliance and quality assurance functions,” the report said. “Which could be an expensive endeavor for some lenders, particularly the smaller companies with weak financials.”