While many factors can be indicative of the state of the U.S. economy as a whole, the unemployment rate is one of the most widely acknowledged indicators of consumer health. Therefore, Fitch Ratings has analyzed the historical relationship between changes in the unemployment rate and changes in U.S. consumer asset-backed securities (ABS) loss rates. Based on this analysis, Fitch believes that typical prime credit card and auto transactions could withstand an increase in the unemployment rate of four to five times the current rate at the “AAA” level and roughly one-and-one-half to two times at the BBB level all else being equal. Fitch’s forecast is for unemployment to increase steadily to the 5.5 percent range by year end.
After reaching multi-year lows in first half-2007, the unemployment rate, auto loan losses and credit card losses have been rising. While they are all still considerably lower than the recent highs reported in mid-2003, ABS investors are seeking more information on the potential impact of continued increases in the unemployment rate on auto loan and credit card transactions.
According to analysis performed by Fitch, increases in the unemployment rate are expected to cause auto loan and credit card loss rates to increase proportionally with subprime assets experiencing the highest proportional rate. For example, prime credit card charge-offs should increase on a one-to-one basis. Accordingly, a 100 percent increase in the current unemployment rate, from 4.8 percent to 9.6 percent, would lead up to a 100 percent increase in current prime credit card charge-offs, from 5.6 percent to 11.2 percent. For subprime credit cards and auto loans the proportional increase is closer to 1.3-to-one meaning a 100 percent increase in unemployment would lead up to a 130 percent increase in charge-offs or losses.
Based on this analysis, unemployment in isolation would have to increase, from 4.8 percent to more than 20 percent in order to cause a first dollar loss to typical “AAA” rated credit card and auto transactions. Typical “BBB” securities could withstand an increase in the unemployment rate to more than 9 percent for auto transactions and close to 11 percent for credit card transactions. For comparison, the unemployment rate is estimated to have peaked in the 24-25 percent range in 1933. Post-war unemployment levels peaked at 10.8 percent in 1982 and over the past 30 years the unemployment rate has averaged approximately 6 percent. “Consumer ABS transactions rated ‘AAA’ can withstand unemployment stresses to levels not seen since the Great Depression,” said Kevin Duignan, managing director and ABS group head.
Fitch stated in February that it expects collateral performance to decline steadily throughout 2008 in the credit card receivable and auto loan assets. However, Fitch believes that the credit enhancement and structural features of the transactions are sufficient to stave off widespread negative rating actions in those sectors.
