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Subprime auto lending is actually getting better


Worrywarts like John Oliver have been arguing for some time now that the next big problem in finance is subprime auto lending.

They’re wrong.

The very word “subprime” suggests financial Armageddon, as if every loan to a borrower with below-average credit is a ticking time bomb. But new data shows that the market for car loans is actually getting stronger, with the portion of subprime loans declining and the portion of prime loans, to borrowers with strong credit, increasing.

The number of auto loan issues to subprime borrowers—people with credit scores between 501 and 600—declined by 4.5% from the third quarter of 2015 to the same period in 2016, according to Experian. The number of deep subprime loans—issued to people with credit scores between 300 and 500—fell by 2.9%. The number of loans to prime and superprime borrowers—with credit scores between 661 and 850—rose slightly. Here are the numbers, including loans and leases both:

Source: Experian
Source: Experian

Experian’s data shows the two classes of subprime borrowers represent about 20% of all car loans issued during the third quarter. That’s similar to the peak market share for subprime mortgages during the apex of the housing boom in 2006, which led to an epic housing bust and a grueling recession. Delinquency rates on subprime auto loans have been rising as well, though they’re well below the peak levels of 2009. Here’s the chart:

Screen Shot 2016-12-05 at 10.49.08 AM
Screen Shot 2016-12-05 at 10.49.08 AM

Some headlines have warned that a frenzy of defaults on subprime auto loans could be looming, while drawing breezy parallels with the disastrous effects of the housing bust. But the comparison is bogus. For one thing, the mortgage market is eight times larger than the auto-loan market, making it far more important to the overall economy. When foreclosures pushed millions of homeowners out of their properties during the housing bust, it shook the foundations of the US banking system. The auto-loan market simply isn’t big enough to have a similar effect.

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Defaults on car loans are also much easier to process, since a car can be repossessed and resold in a matter of weeks, keeping the lender more or less whole. And some car owners actually prioritize their car loan over other commitments when money gets tight, because they need a vehicle to get to work. While losing a home and becoming a renter can certainly be traumatic, it can actually be less financially damaging that losing your means of transportation.

An improving economy, such as we have now, helps stressed borrowers as well, since they’re less likely to get laid off and might even get a raise. In fact, one cause of rising default rates earlier this year was layoffs in the energy industry, which are abating now that oil prices are rising and drillers are getting back on their feet. If you’re a subprime borrower who can’t make payments, your personal economy is certainly under stress. But the broader economy isn’t.

Rick Newman is the author of four books, including Rebounders: How Winners Pivot from Setback to Success. Follow him on Twitter: @rickjnewman.