The auto industry is at or near the North Pole of success, meaning that in the relatively near term, the only way for business to go is south.
A growing supply of late-model used cars, looser credit standards, and longer loan terms head the list of concerns, said dealers, auto finance execs and analysts at the recent American Financial Services Association (AFSA)’s Vehicle Finance Conference and the National Automobile Dealers Association (NADA)’s convention.
The net effect on dealers is continuing pressure on per-vehicle margins for new and used cars and trucks, and the need to make up for it in unit volume and in other profit centers, such as F&I and parts and service. Still, no one at the annual industry get-togethers in Las Vegas predicted disaster any time soon.
Living in Interesting Times
Consumer demand is high, interest rates are low, gas is cheap, the U.S. economy is chugging along, and the OEMs are profitable. Many analysts expect new-vehicle sales this year to top last year’s record 17.5 million-unit total.
“We’re in an interesting place,” said Andrew Stuart, president and CEO of TD Auto Finance, at the Vehicle Finance Conference in late March.
“We know there’s pent-up demand. The average vehicle on the road is 11.5, 11.7 years old, something like that,” he said. “We’re all expecting used-car values to drop. You’re looking at losses on defaults.”
The coming decrease in used-car values would be a “slight” softening, Stuart added. “I don’t think anybody’s going off a cliff any time soon.” Other speakers at the AFSA’s annual event noted that higher prices for used trucks are offsetting lower prices for used small cars.
At the NADA convention, Manheim Chief Economist Tom Webb also carefully expressed some concerns, saying he didn’t want to overdo it.
He flat-out dismissed media reports and reports from some financial analysts who don’t follow the auto industry full time, and who predict a so-called “bubble” in subprime auto finance that could lead to a meltdown similar to subprime mortgages in the run-up to the Great Recession. “I do not see this,” Webb said at the firm's April 1 press conference.
But those alarms are persistent, with Webb admitting they’re getting under his skin. “I am becoming a little more concerned about where we are in the cycle,” he said. “What am I missing that they are seeing?”
Webb said late-model used cars are piling up, echoing the increase in new-vehicle sales and especially leasing since new-car volume bottomed out in 2009. According to an April 7 Manheim report, off-lease volume is expected to approach four million units in 2018, up from slightly more than 3.5 million next year and just over three million in 2016.
“Four million in 2018, that’s a challenge,” Webb said. “Yes, the growing supply will affect prices. The question is, at what profit? All that volume … will be sold. It has to be sold. It has to be retailed.”
However, Webb said he doesn’t expect used-car prices to drop far or fast in the short term.
Separately, ADESA Analytical Services said in an April 14 report the average wholesale used-vehicle price for March 2016 was $10,815, up 1.7% from a year ago.
Tom Kontos, ADESA executive vice president and chief economist, said the increase in the average price disguised the fact that truck prices were up, while car prices were down. “Price softening driven by supply growth remains a visible undercurrent,” he noted.
Help With Remarketing
At the AFSA’s Vehicle Finance Conference, one auto finance executive said he was concerned because a couple of OEMs he wouldn’t name had approached him for help remarketing an overabundance of off-lease cars.
“We don’t do leasing,” said Ian Anderson, president of Westlake Financial Services. “But one manufacturer called us and asked us what to do with an increase of 90,000 off-lease returns, and how that would affect their valuations. Two of them have called us.”
Anderson predicted used-car prices would decline more steeply in the third and fourth quarter of this year, due to rental car companies reducing their fleets, higher repossessions following tax season, and off-lease returns. “I think it’s going to slide,” he said.
Meanwhile, Chicago-area dealer Joe Castle said at the AFSA conference that he is seeing auto lenders relax their approval standards to get more business, beyond what he considers reasonable.
“When everything hit in ’08 and ’09, everything was over-tightened, and you couldn’t get a contract for a 700 [credit score] who had been with that lender for their entire life. On the other hand, what does worry me is a lender waiving stips (stipulations) on 550 credit scores,” he said.
“Don’t get me wrong, it’s revenue; I like the money. But when am I going to have to pay it back to the market? I tell my guys, ‘Don’t be a greedy pig,’ because we’re going to get slaughtered,” he said. Castle is the dealer principal of Castle Auto Group.
Long, Long Loans
Stretching loan terms are another common concern, since longer terms mean customers are more likely to be upside down on their vehicles at trade-in time. Nevertheless, longer terms are popular because they keep monthly payments down.
In the fourth quarter of 2015, the average new-car loan term was 67 months, up one month from a year ago, according to Experian Automotive. The 73- to 84-month loan category was the fastest-growing category, Experian said.
David Paul, senior vice president of financial services for American Honda Finance Corp., said his company strictly limits 84-month approvals. “We take a more conservative view on 84 months. Eighty-four months is less than 1% of our book. Our view is, long term that may not be good for the customer. Long term, we are seeing an uptick in negative equity and that’s a concern,” he said at the Vehicle Finance Conference.
John Hyatt, head of the indirect lending group at U.S. Bank, said the bank is reluctantly “looking at ways” to offer 84-month loans. “It’s very dangerous for the dealer because the (trade-in) cycle is so long, and they come up so far upside down,” he said. By approving such long loans, “We are doing a disservice to the dealer,” Hyatt added.
Jim Henry is a freelance writer based in the greater New York city area. Contact him at [email protected]