COLORADO SPRINGS, Colo.-The staple of credit union lending, the used car loan, could be riskier this year.
A number of industry analysts and CU lending executives predict that used car values will dip sharply in 2012, hiking loan-to-value on deals already written, returning less on repossessions, boosting charge-offs, and increasing the chance members will walk away from the loan.
"From a very simplistic standpoint, today's potential used car bubble will hurt us in two ways," Bill Vogeney, SVP at the $3.1-billion Ent FCU, told Credit Union Journal. "The cars we're financing now, even at 100% LTV, are probably closer to 110% LTV or more based on historical values. Also, when we repossess cars in that future we financed today, the lower future value will increase losses above and beyond what we're experiencing now-even assuming a strong economy in the future. Prepare now to explain that to your board and CEO."
Kevin Tynan, senior automotive analyst for Bloomberg Industries in Princeton, N.J., pointed out that used car values hit a record high in 2011, and have started to trail off slightly, but are still near record levels. "For the same used car today-the same model, same options and adjusted for inflation-you will pay about 22% more than you did in 1995."
The demand and therefore value for used vehicles has risen sharply since the bottom of the recent recession, steadily climbing through much of 2011. "The median vehicle age is 10.2 years, the highest ever," Tynan said. "People are holding onto their cars longer for obvious reasons."
Vogeney, vice chair of the CUNA Lending Council, said what tipped him to the potential problem is hearing auto dealers complain about a shortage of used cars on their lots. "I was looking at some of the prices and values on used car loans we have coming through and said, 'That's a lot for that car.'"
Artificial Prices
More proof of artificially high prices, insisted Vogeney, comes from auction prices for repossessions. "In early 2009 we hit our low point, about 35 cents on the dollar. The last five to six months we have been at 60 to 61 cents on dollar, our highest ever. Historically we are around 50 cents to 55 cents."
In San Jose, Calif., Keith Reynolds, community president of CEFCU West, informed his lending staff that the spike in used car values is "likely unsustainable based on demand having caught up with supply" and that prices will likely moderate towards an equilibrium in coming months.
One of the reasons for the expected drop in used values are predictions for increased demand for new cars this year that will put more used vehicles on the market. John Sternal, VP of LeaseTrader.com in Miami, last year predicted a spike in new car sales in early 2012 due to the fact manufacturing and supply chains in Japan returning to 100% following the earthquake and tsunami that wracked that country last year ("
"We still hold to that. There were a lot of people in the spring of 2011 coming to us for 10- to 12-month leases because they wanted to bridge into early parts of 2012 when new car inventory, lower prices, and manufacturer incentives will come back strong."
What will also send used prices south is the steady comeback of leasing from the sharp drop-off seen in 2008 and parts of 2009 when manufacturers pulled back on leasing incentives. Sternal explained that leasing cycles run three years, so with fewer leases written in 2008 not as many leased vehicles came onto the used car market this past year, cutting used supply even shorter. "At the end of 2009 we started to see more leases being written. Those cars will be coming off lease this year and next. As used inventory rises, prices will come down for sure."
Be 'Very Vigilant'
CEFCU's Reynolds, a member of the CUNA Lending Council, has informed his lending team and is advising credit unions to be "very vigilant in terms of underwriting used car loans to individuals with less than stellar credit if they have elevated LTVs. I don't want a portfolio full of 620 to 660 FICO scores with 60- and 72-month amortizations and 130% LTVs that may look more like 150% LTVs by mid-year 2012."
Vogeney cautions lenders not to be lulled into a false sense of security when evaluating their used car portfolio risk. "Your average loan to value may not be high but your loan amount is probably going up and those loan to values are at escalated prices. So 100% loan to value might really be 110% to 115%. Lenders now have to closely evaluate what kind of risk they have in their portfolio."
Vogeney made it clear to Credit Union Journal that today is not the time to be pushing the loan-to-value envelope on used car loans. "Be really cautious from a credit quality standpoint and loan-to-value standpoint. The sound thing to do, too, is to set values on used cars to more historical levels. I think there is probably a 30% increase in losses built in right now just based on the used auto prices getting back to normalized levels."
Vogeney shared one more concern-that members may be more likely to walk away from their used car loan as values begin to fall. Vogeney does not foresee a widespread problem with default. However, for those members who bought an inexpensive used car for a long term and the car breaks down, that person is a default risk.
"Maybe the person bought a used car because he was afraid he'd lose his job. Now the job is OK but the car that was worth $14,000 a few months ago is worth $10,000 and he is upside down. He can't get enough out of the car on a trade-in so he gives the keys back to the credit union."
