Ally Financial’s long-term default rating has reached investment-grade status after an upgrade by Fitch Ratings, thanks to a boost in profitability stemming from increased used-car originations. The upgrade is a plus for Ally since investment-grade paper is typically in higher demand by investors, Michael Taiano, senior director of the Financial Institutions Group at Fitch Ratings, told Auto Finance News.
Ally’s increased focus on used-vehicle financing has been a positive driver as it boosts profitability, Taiano said. On top of that, used-vehicle financing provides the “best risk-adjusted returns in the current [auto lending] environment,” he said. Used-car loans accounted for 54% — the equivalent of $5.2 billion — of Ally’s originations last quarter, compared with 51% in the prior-year period.
“There is a benefit to used-vehicle financing relative to new vehicles,” Taiano explained. “When a lender has defaults, the loss severity tends to be lower with used vehicles. Also, the downside of a new vehicle is that it depreciates significantly once it leaves a [dealer’s] lot. That hurts from a loan-to-value perspective, which isn’t as significant in the used market — that’s a mitigating factor.”
Additionally, an increased funding profile combined with stable credit performance and higher profitability spurred the upgrade, Taiano said. “[Ally] increased funding that they derive to 72% total funding from retail deposits, that was a positive development,” he said. “Profitability, while not the highest among its peers, has improved as well.” Ally’s net income for the second quarter was $582 million, a 66.8% increase year over year.
The upgrade has moved Fitch’s outlook for Ally’s ratings to stable from positive. “We had Ally on a positive outlook going back two years,” he said. “It’s a 12-to-24-month time horizon that there is a greater likelihood that we would upgrade the rating. So the rating itself upgraded, but the outlook went from positive to stable. Typically we expect this type of upgrade to keep the outlook stable over the next year or two.”
To spark further upgrades, Fitch looks out for two primary factors: a more diversified business profile and an overall increase in profitability. However, a significant reduction in capital levels or meaningful degradation in credit performance would signal a potential downgrade, Taiano said.
Ally Financial’s stock was trading at $31.01 per share on the N.Y. Stock Exchange at press time. The company has a market capitalization of $12.10 billion.