Referenced as an effective measure of lender exposure risk, the latest Fitch auto loan delinquency data shows subprime consumers defaulting on loans at a higher rate than at the peak of the 2008-2009 Great Recession. And, here’s a startling fact. The U.S. banking sector now has more than a third of $1 trillion in indirect subprime auto loan exposure.
According to S&P Dow Jones Indices and Experian, the comprehensive auto loan default rate fell four basis points from last month to 1.05 percent, which is higher than its trending low in 2016. With unemployment hovering around four percent, low gas prices, ‘relatively’ low interest rates, and a generally robust economy, one would think that delinquencies and default rates across all credit ratings would be stable to down. However, this is not the case.
Making matters worse, rising interest rates make interest payments increasingly unserviceable for those borrowers who are currently locked into a contracted rate. With rates forecasted to tick up .25 percentage points each quarter, auto lenders may see a dearth of new consumers considering the purchase of a new vehicle as well as current customers squeezed between rates they can no longer afford. While unemployment is down, salaries are forecasted to remain flat for the remainder of the year.
Take proactive measures
Lenders are powerless to impact rising interest rates, flat salaries, or sketchy credit decisions. But, lenders can build defenses to protect their current portfolios as well as guard themselves against potential defaults with new customers. While much of this default risk seems to lie with the sub-620 FICO population, portfolio protections apply across the board. Mitigate your risk with products that have the potential to defend against default.
Consumer protection products have the potential to reduce risk by addressing the consumer’s ability to make their loan payments when life takes a turn. For example, consider a consumer rebuilding their credit and savings who may be living paycheck to paycheck. For this consumer, a deviation from their monthly budget can challenge their ability to make a car payment. Products such as vehicle service contracts and vehicle return protection can help bridge the issue to help consumers pay their car loans when the unforeseen occurs. Consumer protection products come in all sizes, but the loan benefit is strong regardless of whether it’s a tire product or something as robust as WALKAWAY. The key is to offer the right products to meet the consumer’s needs while providing support against defaults.
If your customer is price sensitive with limited credit history, offering a protection product with high value that will keep their vehicle operating for a long time is a wise offering. Build a clear picture of your customer’s credit history, honestly assess the risk of default, and clearly explain the financial implications surrounding interest rates and protection products. Approving a loan today that could end in default next year is folly for all involved
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