Investment research firm DBRS expects that lenders will begin to loosen credit standards to achieve growth strategies as the auto finance market continues to improve, competition increases and credit availability resumes.
As a result, the firm contends these developments will likely put negative pressure on collateral performance, increasing pool delinquencies and losses.
“Furthermore, the weaker, less disciplined players will be more prone to financial stress if losses are in excess of original expectation, which may lead to a reduction in the number of operators through consolidation or bankruptcy,” analysts said in their report titled, “Auto Finance and ABS Trends and Outlook.”
Nonetheless, DBRS believes that while the auto finance market continues to perform better than original expectations, a careful assessment of financial condition and changes in underwriting and servicing practices will be critical to determine the future performance of auto loan pools.
“As the auto finance market continues to improve, competition increases and credit availability continues to expand, it is expected that lenders will begin to loosen credit standards to achieve growth strategies,” analysts said.
“This will likely put negative pressure on collateral performance, increasing pool delinquencies and losses,” they added.
DBRS pointed out that any future degradation of performance is expected to cause the originators/servicers to expand collection strategies to fully utilize tools available to them to maximize collections on portfolios. One such strategy the firm mentioned might be the increased use of extensions or deferrals.
“If deployed judiciously, extensions and deferrals are an effective way to help potentially borderline borrowers from losing their vehicle over a temporary credit issue,” analysts said. “While an acceptable practice for maximizing the values in auto loan portfolios, extensions and deferrals can also mute and/or dilute the measurement (and reporting of early indicators) of deteriorating pool performance.
“As a result, assessment of the changes in collection practices and the reported statistics of collection practices will be assessed in the analysis of future deals,” they continued.
While the auto sector has experienced a strong recovery, according to DBRS, the firm acknowledged there are some challenges that will need to be assessed going forward.
“The continued increase in competition may drive some market participants to reduce the level of discipline and originate loans of lesser quality. In a competitive market, aggressive buying practices and reducing loan quality to achieve volume expectations is a practice that should be monitored and is unsustainable in perpetuity,” analysts said.
“Ultimately, the weaker,less disciplined players will be subject to financial stress if losses are in excess of original expectations, which may lead to a reduction in the number of operators through consolidation or bankruptcy,” they went on to say.
DBRS stated a “careful” assessment and balancing of risk factors impacting the performance of pools of auto loans is “critical.”
DBRS concluded its report that it will continue to monitor auto industry performance, trends in the values of used vehicles and other factors that will impact the analysis of auto ABS transactions.