US auto boom increasingly relies on leasing and longer loans
The latest sales figures in US auto sales for November reveal a surge in stretched out auto loans.  This marks a distinct shift, as longer loans were originally considered a poor choice for borrowers, leaving the vehicle owner indebted for years before finally exiting a negative equity scenario.  The proportion of longer auto loans has jumped 17.1%, YoY, in 3Q 2015, with more than a quarter of all auto loans now stretching out more than six years.  However, as vehicle prices rise, US consumers are struggling to keep monthly payments affordable by taking out longer-term loans, or relying on lease deals, which usually hold monthly payments lower than a comparable loan.  Also, data shows automakers are sustaining record transaction prices for new vehicles with these stretch out loans for less credit-worthy customers, igniting concerns of further risk.  These factors have resulted in an increase in leasing for those consumers looking to maintain a more affordable monthly payment, however, credit monitoring company, Experian, warns "consumers must be aware of leasing provisions, such as mileage caps, that can greatly increase costs".  Furthermore, with the number of cars returning from leases expected to double by 2017, analysts predict this could put downward pressure on used vehicle prices, with shoppers having to borrow more money as their trade-in value declines.  

Greg Gardner

Detroit Free Press

These are the auto industry's best of times, but a report released today says the sales boom is increasingly dependent on leasing and longer loans that could trigger a hangover down the road.

Experian Automotive, a credit research firm based in Schaumberg, Ill., said a record percentage — 27% — of the new vehicle transactions this year were leases. For those who financed their purchases — still a majority of all vehicle deals — 27.5% are taking out loans of between six and seven years. That raises the likelihood that after two or three years the balance they owe will exceed the value of the car or truck.

The average new vehicle is selling for about $33,000, a new high. But research shows that most consumers are more focused on the monthly payment. That's why leasing and longer loans are playing a bigger role.

“Leasing has become a more viable financing option for consumers looking to maintain an affordable monthly payment,” said Melinda Zabritski, Experian’s senior director of automotive finance. “While consumers can save an average of $84 per month by leasing rather than taking out a loan on a new vehicle, they should make sure leasing fits their lifestyle. Often there are mileage caps and other considerations that consumers should familiarize themselves with before entering into a leasing agreement.”

Leasing works for automakers and dealers because it guarantees customers will return after two or three years when the lease expires.

The flip side is that the number of cars returning from leases is expected to more than double from about 1.7 million in 2013 to nearly 3.5 million in 2017, according to Manheim, the company that runs most of the auctions where dealers sell those off-lease vehicles.

That could put downward pressure on used vehicle prices. In turn, shoppers eventually will have to borrow more money as their trade-in value declines.

To some extent that is beginning to happen. The average new vehicle loan was for $28,936, up $1,137 from the previous year, according to Experian.

Other findings in Experian's third-quarter "State of the Auto Finance Market" include:

The average credit score for a new vehicle loan fell to 710, the lowest since third quarter 2007.

The average monthly payment for a new vehicle was $482 between July and October, up $12 from the previous year.

The average monthly payment for a used vehicle reached $361, an increase of $3 from a year ago.

The average interest rate for a new vehicle hit 4.63%, while the average interest rate for a used vehicle reached 8.76%.

None of these factors may slow sales in 2016 or 2017 if the overall economy continues to strengthen, job creation remains robust and gas prices stay low. But they reflect underlying economic dynamics that so far have helped drive sales in the last two years.

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The ability of consumers with checkered credit histories to obtain new and used vehicle loans, known in the industry as subprime loans, is one of these trends that can yield benefits and risks.

Earlier this week, Fitch Ratings, a credit rating agency, reported that annualized net losses from subprime loans rose for the fifth straight month in October to 8.05%.

Asked how that compared with levels from the Great Recession, Hylton Heard, senior director of Fitch's auto asset-backed securities sector, said loss rates on these riskier loans ranged between 10 and 13% from 2008 through 2010.

"They’re still within historically reasonable levels," Heard said. "But you have to keep an eye on the subprime sector, because those borrowers are most vulnerable to changes in economic conditions."

Contact Greg Gardner: 313-222-8762 or ggardner@freepress.com. Follow him on Twitter @GregGardner12