In a notable admission, Richard Fairbanks, the chairman and CEO of Capital One Financial Corp., yesterday acknowledged that the company made notable mistakes in automotive finance.
Fairbanks called Cap One’s financial modeling when its auto finance unit moved beyond the super-prime and prime sectors a couple of years ago as “among the worst in the market.” Fairbanks said Capital One made the mistakes as it “expanded to parts of the business we hadn’t been in before.”
The acknowledgement is a remarkable turn for Capital One, which was built with the strategy of banking on analytical underwriting models. Fairbanks said yesterday that Capital One was using more “judgement” in its underwriting and strategic planning today.
“Models are good at rank ordering risk,” Fairbanks said. “They are not good at predicting absolute risk.”
Capital One was the 11th-largest auto finance company in the nation last year, with $25.1 billion of outstandings, according to the Auto Finance Big Wheels data report.
Wow!!! When they bought Onyx Acceptance the company I was working for I was dumbfounded at the paper their “model” was buying. Onyx always had buyers that bought the paper and analyzed risk by each applicant’s individual story. Computers can’t do that and the volume they were buying was scary. I thought it would come back to bite them in the butt some day.
It seems like a lot of companies these days are getting back to good, old-fashioned underwriting, with a human — not a computer — reviewing each application.
The comment “Models are good at rank ordering risk. They are not good at predicting absolute risk.” is silly. If models can’t predict absolute risk does this mean that only humans can? And if both models and humans can’t predict absolute risk does this mean that banks are no more than regulated casinos? The ideal mix is humans using models intelligently. Given that the weighted average life of an auto loan is so low and the cost of exclusively human judgement is so high that you can’t get any decent ROE by throwing away the models.
Over regulation? Who was regulating AIG? The CRA? Have you ever read the Act? It was enacted to prohibit “red lining” by lenders and insurance companies. It had NO force of law to compel banks to makes risky loans. Risky mortgages were made because they could immediately be sold to Wall Street who would packed them up into an ABS, “insure” it with a CDO, and sell it as a AAA rated bond. Doesn’t this sound as if the regulators were asleep? Repeal of Glass Steagall made no difference? It opened the door to this entire debacle.
Fannie and Freddie were buying mortgages in competition with Wall Street. If you check out the resource I provided rather than watching FOX you will find out this is true.
The impact of Barney Frank and the CRA is negligible at best.
What I might agree with is the fact that the administration seemingly wants lenders to do what got them into trouble in the first place. The banks have their own reasons to sit tight. They are sitting on billions of potential losses. Many are holding Mortgage Backed Securities or mortgages themselves. The collateral does not support the money loaned against it. If this house of cards starts to crumble there won’t be anywhere near enough cash to save these banks. Everyone is holding their breath on this.
And even financially solvent small businesses aren’t borrowing. They mostly aren’t looking to expand and many are just treading water. Many of the small businesses looking for loans need the money to hang on, a risk lenders aren’t willing to take on at the moment.
Toxic assets and the associated deflation of home values are the proverbial “Sword of Damocles” hanging above our heads..