2020 will long be known as the year of the pandemic. For auto financiers, it will also be remembered as the year of the loan extension.
When COVID-19 took root in the U.S. in March, lenders started to shell out extensions to keep accounts current and bolster loyalty among customers facing unexpected furloughs and job losses. Prime lenders whose loan deferral rates had historically been in the 1% range saw those rates shoot up fivefold; for some subprime lenders, extension program frequency skyrocketed to 20%.
In the past few months, a handful of lenders have even granted second or third extensions, according to Kroll Bond Rating Agency. Prior to the pandemic, financiers rarely authorized more than one deferral in a 12-month period. According to KBRA data, the majority of borrowers who received extensions in the June collection period had already received at least one extension in 2020.
As expected, these loan deferrals have kept delinquencies and losses at bay because consumers who might have had trouble making their monthly auto loan payments were granted reprieves ranging from one to three months. As such, average net charge-offs among auto issuers were down 225 basis points year over year to 1.18%, according to Jefferies’ July Credit Monitor. Delinquencies fell 411 bps to 4.43%. The industrywide expectation has been that delinquencies and charge-offs will continue their downward trajectory until about September, when the bulk of deferrals are scheduled to expire.
But what happens when these extension periods end? Will delinquencies spike? Typically, extensions lead to higher credit losses and back-loaded defaults if borrowers are unable to make their loan payments. The subprime credit tier is especially at risk for higher post-deferral defaults. Making matters worse, the economy is still sputtering, with the unemployment rate clocking in at 10.2% in July, according to the U.S. Bureau of Labor Statistics. The Conference Board’s consumer confidence survey fell for the second straight month in August, dropping to 84.8 — its lowest level since April 2014.
Yet, in the past few months, consumers have started to squirrel away money. In addition to benefiting from the loan-payment hiatus afforded by deferral programs, consumers have increased savings and curbed spending. From March to April, consumer spending fell 12.6% as the economy slowed and the unemployment level rose. Concurrently, the U.S. personal savings rate — the percentage of people’s income that remains each month after taxes and spending — surged to a record 32.2% in April, compared with 12.7% in March, according to the U.S. Bureau of Economic Analysis. In the past 10 years, the savings rate has hovered in the 6%-to-8% range.
Another potential method for bolstering savings is loan refinance. With interest rates so low, it comes as no surprise that lenders are touting refi offers. Federal Reserve policymakers in June projected that the federal funds rate would remain near zero through 2021 — and possibly as far out as 2023. These low rates have spurred refinance offers from companies like MotoRefi and RefiJet, which are promoting programs that could help consumers lower their car payments by at least $100 a month.
Credit unions, especially, are ramping up refi promos for consumers. Achieva Credit Union’s Refi and Ride program offers auto loan rates as low as 2.75%, while Securityplus Federal Credit Union’s refi APR is 1.99%, and Houston Federal Credit Union’s is 1.75%. By comparison, auto loan rates in August 2018 hovered around 5%, according to Informa.
Aside from the low rates, credit unions are tacking on incentives like cash back, discounts for energy-efficient vehicles, satellite radio access and — in many cases — 90-day payment deferrals. Though interest will accrue during the deferral period, practically speaking, a consumer could wrap up a three-month extension with his original lender, and then refinance the loan and secure another 90-day extension with another lender.
While lenders typically shy away from multiple extensions, in this case the extensions would be granted by different lenders. In fact, these back-to-back deferrals may be the linchpin necessary to prevent the sharp rise in delinquencies expected when the first round of deferrals expires. The premise is that by November or December, consumers should have had enough time to secure steady income streams so they can return to their monthly auto loan payments without a problem.
Auto Finance Summit, the premier industry event, returns October 20-22, 2020, as a virtual experience. The virtual experience will offer the same quality networking and education as past events, all through an online platform. To learn more about the 2020 event and register, visit www.AutoFinanceSummit.com.