A Crisis Brewing for Auto Loans?
An unexpectedly rapid rise of both ride-sharing and autonomous taxis seems likely to threaten all three of the factors that historically have supported a predictable car loan market. Since 2010, auto loans have increased more than 70% or $0.5 trillion as shown below. In our view, disruptive innovation is primed to hit the auto loans market head on.
3 Factors Have Supported The Auto Loan Market Over Time
The Car as a Necessity
Until recently, consumers couldn’t afford to live without their cars. During the financial crisis in 2008 and 2009, if they were employed, most people needed their cars to get to work and placed a higher value on transportation than almost all other sources of credit. As mortgage and credit card loan delinquencies spiked, toward or into the double digits, auto loan delinquencies barely exceeded 5%.
In the next credit downturn, however, auto loans are unlikely to behave that well. Based on ARK research, the launch of autonomous taxi platforms will provide point-to-point mobility at a fraction of the cost per mile that auto owners spend today. Ride-sharing services already are enhancing the convenience of existing public transport options, a reason perhaps why auto sales may already have peaked at 17.6 million units in 2016 and are now at a seasonally adjusted annualized rate of 16.58 million. With consumer confidence near a 12 year high, the drop in auto sales does need some explanation.
The Car as Collateral
Unlike credit cards, auto loans are secured by the vehicle, and unlike houses, vehicles are relatively easy to repossess and sell. While more volatile than new car prices, used cars have retained value fairly well, as shown below. Since the end of 2014, the CPI for used cars has slipped below that of new cars for the fifth time since the mid-eighties, as shown below. Unlike in the past, however, this time used car pricing should continue to decline. ARK’s research indicates that ride-sharing already has caused a cumulative loss of 1.7 million car sales. As drivers continue to surrender personal vehicles, in favor of ride-sharing and ultimately autonomous vehicles, used car sales inventories will continue to swell, putting much more serious downward pressure on prices. At the same time, the CPI for new cars should continue to increase, thanks in part to more autonomous features. In short, not only will autonomous vehicles empower consumers to default, but they also will contribute to a collapse in the value of the underlying collateral.
The Car as a Source of Income
Auto loan demand today is driven in part by the fact that vehicles have become a source of income for many people. As shown below, ride-sharing companies have their own vehicle-leasing programs. Uber’s Xchange Leasing permits individuals at all credit levels to put as little as $250 down for a car, with the expectation that ride-sharing income will cover the lease payments. While drivers can generate sufficient income, ARK’s research suggests that autonomous taxi networks will obviate the need for human drivers sooner than most auto manufacturers now expect.
Not only will autonomous taxi platforms boost default rates and lower collateral values, but they also could contribute to the competition that will destroy the cash flow upon which auto loans depend.
Those Three Factors Are Not Working Today
The taxi industry could be foreshadowing what will happen as autonomous taxi networks disrupt ride-sharing, much as ride-sharing has disrupted the taxi business. As shown below, as measured by Capital One and Medallion Financial, taxi medallion loan defaults have increased dramatically in the past year. As shown, Capital One’s nonperforming loan rate has soared from less than 20% in the fourth quarter of 2015 to more than 50% during the fourth quarter of 2016. While Medallion Financial’s nonperforming taxi medallion default rate jumped from less than 1.5% in September of 2015 to more than 19% in March of 2017. As autonomous taxi networks evolve, ride-sharing drivers probably will have increasing trouble paying off their vehicle leases, and could leave Uber, Lyft, and others with cars worth much less than the residual value they had anticipated.
Auto loans outstanding are less than 15% of mortgages outstanding. While ARK’s research suggests that auto and auto-related industries will suffer from the impact of ride-sharing and autonomous vehicles, the fallout will be de minimis compared to the housing crisis in 2008. That said, the current interest rates on auto loans are not discounting appropriately the probability of a significant jump in nonperforming auto loans and a drop in the residual value of the collateral.