Big banks are pulling back sharply from auto loans, helping drive a drop in car sales and raising fears the slump might deepen.
Wells Fargo & Co., one of the largest U.S. auto lenders, last month reported a 29% fall in its auto loan originations for the first quarter from a year earlier. The decline, the biggest for the San Francisco-based bank in at least five years, was part of a common refrain in quarterly announcements from lenders including J.P. Morgan Chase & Co., Ally Financial Inc. and Santander Consumer USA Holdings Inc.
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Bankers' caution is increasingly showing up in car sales, which Tuesday came in worse than expected for April. The declines are mostly occurring in lending to riskier borrowers, in particular those with low credit scores, where lending had ramped up for years.
"A very accommodating finance environment had been in place for some time," said Bruce Clark, lead auto analyst and senior vice president at Moody's Investors Service. "What you're seeing right now is a pullback and the resulting pressure on unit vehicle sales."
Some banks, including regionals Fifth Third Bancorp and Citizens Financial Group Inc., are beginning to retreat from higher-quality "prime" auto loans as new risks emerge. "It's been an overheated sector, " said Fifth Third Chief Executive Greg Carmichael. "The auto business just isn't as attractive right now."
Some anticipated the market would cool off after record new car sales in 2015 and 2016. But banks are also posting higher losses on defaulted auto loans, hit by a mix of more borrowers falling behind on payments and the declining value of used cars.
When lenders repossess cars, they resell the vehicles and use the proceeds from the sale to recover as much of the unpaid balance as possible. Declining values means that lenders are recouping a smaller share of those balances. Lenders who are repossessing cars tied to prime auto loans that were securitized in 2015 are recovering about 51% of the unpaid loan balances on average, down from 56% for 2014 loans and 65% for 2011 loans, according to S&P Global Ratings.
"There is a more cautious tone across the industry," said Christopher Halmy, chief financial officer at Ally Financial, on the bank's earnings call last week. Ally also warned about the auto market in March, when it lowered its growth expectations for the year. The comments contrast with Ally CEO Jeffrey Brown's statement last summer that he was "bullish" on auto lending and the bank didn't have reasons to be concerned about the loans it was originating.
The slowdown in loan volume marks a turnaround for the auto loan sector, where originations grew consistently in recent years. It also calls into question whether the bullish run in auto lending is coming to an end.
Car loans have been among the fastest-growing consumer lending categories since the last recession. Banks and other lenders began increasing originations about seven years ago in search of more revenue as the mortgage market slumped.
As competition intensified, lenders loosened underwriting standards by courting borrowers with lower credit scores and extending repayment periods on loans. Small nonbank lenders also jumped in, relying on the bond market as an outlet to sell their loans.
But increasing losses have sapped some banks' enthusiasm. Annualized net losses on securitized subprime auto loans increased to more than 10% late last year, the highest level since February 2009, according to Fitch Ratings. The figure slipped back to 9% in March, but that was the highest loss reading for that month since at least 2001.
The worsening performance is occurring despite unemployment remaining low. It may continue to worsen, even if the jobs picture remains bright. Fitch in December lowered its outlook performance for securitized subprime auto loans for 2017, even though it isn't forecasting a broader economic slump.
Wells Fargo said it expects its auto portfolio to decline in size this year. Ally has been expanding into other loans, including mortgages and credit cards, as it tries to diversify beyond autos. Citizens said on its earnings call that it recently stopped buying auto loans from Santander Consumer as part of the Providence, R.I., bank's strategy to shrink its auto loan book. Santander Consumer, a unit of Spain's Banco Santander SA, has been paring back on lending. The company reported a 21% drop in auto loan originations in the first quarter from a year earlier, following a 20% decline for all of 2016.
"We're seeing...some pulling back in terms of origination volume across the whole market," said Amy Martin, lead analyst for auto loan securitizations at S&P Global Ratings. "That's a function of these companies seeing the impact of their liberalized credit standards."
In recent years auto sales have relied heavily on the flow of easy credit. Now, subprime borrowers have fewer loan options and face higher interest rates. This is being felt at dealerships, especially with used cars.
"We're at the beginning stages," said Kevin Barker, senior equity analyst at investment bank Piper Jaffray. "Less credit will reduce incremental demand for vehicles."
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(END) Dow Jones Newswires
May 03, 2017 09:14 ET (13:14 GMT)