In the past couple years, credit scores have become “much more meaningful” to the critical task of figuring out which consumers will likely pay their auto loans in the future, and which ones won’t, according to Western Funding Inc. President Guerin Senter.
In contrast, credit scores lost some of their predictive power immediately after the Great Recession, he said. Las Vegas-based Western Funding is a subprime auto lender.
“From 2011 to 2013, we found that the credit score had a much softer correlation with performance versus now, and now there’s a much stronger correlation,” Guerin said. “In fact, in our algorithm that computes who’s going to pay, I frankly didn’t even consider credit scores at all two years ago.”
Post-recession, a formerly dependable borrower could have “hit a few bumps” that damaged their credit score, like losing their job, which in turn could have led to defaults or repossessions, according to Senter. “They had great potential, but they de-levered. Whatever the reason was, they were out of a car for a time and [are] coming back,” he said. “Those stories that make sense, everyone likes to talk about them: Give the borrower another car, they get a job again. They’re off to the races, and everything’s great.” Conversely, many customers have had time to repair their credit histories, so today a low credit score is more likely to mean a customer is a seasoned subprime customer, Senter said.
Troy Cavallaro, chief executive at Pelican Auto Finance LLC, said he “absolutely concurs” with Senter’s thoughts, that credit scores “were not as relevant ”following the recession, but today they’re back to being a critical part of the approval process. “The reason being is, the worst of the worst is over, and those people that had those bad credit scores following the recession maybe suffered from a macroeconomic event,” Cavallaro told Auto Finance News. “[Now] they’ve either improved their credit score, or they’ve never recovered, and those that have never recovered really gives you an indication of, potentially, the good and the bad.”
In response to the changing landscape, Pelican is rolling out its fourth-generation scorecard before the end of 2015, according to Cavallaro. “What we’ve done is a scorecard refresh, and did a new regression analysis to basically re-rate the variables, including credit score, now that we’ve come out of the recession,” he said. The company’s Generation 4 scorecard also uses alternative data for the first time, Cavallaro said.
“The reality is, I think, that expressly for these customers that have lighter files and lighter scores, the alternative data becomes more and more relevant,” he said. “Because you’re trying to get as much information, to make as educated a decision as possible.” Credit scores are not only becoming more relevant, FactorTrust Chief Executive Greg Rable said, scores are more advanced as well, making scoring even more important to lenders in the nonprime space. “There’s this level of sophistication now, that’s evolved and a lot of it is because there’s data out there that wasn’t there five years ago,” he told AFN.
Western Funding’s Senter agrees that the industry is evolving, and it’s important for lenders to be aware of the changing landscape as the market continues to shift. “Our static pools and static delinquencies have shown that sub-600 credit scores in 2015 perform much worse than historically, with no change in the deal structure,” Senter said. “So the moral of the story is, that static credit score, that absolute number, might be the same over the last few years, but for us, the customer’s performance is not. And a 550 today is not what a 550 was two years ago,” he said.
The story originally appeared in the October issue of Auto Finance News magazine.