Appetite for Higher Yields Spurs Boost in Single-B Securitizations

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Increasingly risky securitizations are becoming more popular as a looming contraction period has investors hungry for higher yields.

Although single-B-rated loan tranches are described as “speculative” and “unlikely to survive even a mild deterioration in economic conditions,” rating stability and upgrades have made investors feel comfortable with this asset class, said Amy Martin, primary credit analyst with S&P Global Ratings.

The rise in the new development is attributed to the “tremendous rating performance” of auto ABS, with 11,000 upgrades from 2004 to present, Martin told Auto Finance News.

So far this year, $141 million worth of single-B-rated pools have been securitized — a first in the auto sector. Issuers of the loans were Westlake Financial Services, United Auto Credit, American Credit Acceptance Corp., and First Investors Financial Services. By comparison, no single-B tranches were securitized last year.

Single-B securitizations are “more efficient” because they allow lenders to “issue that far down in the rating scale,” Martin said.

However, with greater possibilities comes greater risk, as “single-B rated auto loan ABS securities could be vulnerable to downgrade in a mild recession,” she warned.

Increased M&A Activity

While capital is not flowing into this space as well as it did in the earlier parts of this economic expansionary period, the current cycle bears a similarity to prior cycles as a consolidation period is on the horizon.

This started in March, Martin notes, with the sale of Pelican Auto Finance to Westlake Financial Services. Pelican joined the subprime space in 2013 as the market became competitive, credit standards loosened, and profit margins were narrowing.

“Lenders that have been profitable will be the ones that survive,” Martin said. “Marginal and unprofitable members are starting to turn in the keys, close shop and sell their portfolios.”

Summit Financial Corp. and Ace Motor Acceptance Corp. filed for bankruptcy protection that same month. The silver lining for ABS investors is that none of these entities had any loan ABS outstanding.

Spring Shows Improvement

Additionally, last week S&P Ratings released its U.S. Auto Loan ABS Tracker, showing current trends for subprime ABS.

Subprime recoveries rose to 47.37% in April, compared with 44.73% in the prior-year period. Due to spring, rebounding recoveries and the seasonal trend of better performance, the subprime net loss rate improved — decreasing to 6.43% in April from 7.04% the year prior.

“In our view, higher auction prices contributed to the improved recovery rates,” the S&P Ratings report noted. According to Manheim’s Used Vehicle Value Index, all major segments saw price gains in April.

Delinquencies on Decline

Delinquencies experienced a downward trajectory — the subprime sector 60-plus-day delinquency rate fell to 4.01% in April 2018 from 4.25% last year.

Meanwhile, the modified subprime sector 60-plus-day delinquency rate improved 23 basis points to 2.95% in April 2018 from 3.18% in March. It declined 22 basis points year over year, from 3.17% in April 2017.

S&P Ratings developed the modified subprime index to serves as a supplement to the subprime index, which excludes certain high-loss deep subprime issuers, such as Santander Consumer USA, American Credit Acceptance, and Exeter Finance. On a month-over-month basis, the modified subprime loss rate decreased to 5.23% in April 2018 from 5.63% in April 2017.

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