Fitch Ratings is a bit more upbeat about the direction of the auto lease asset backed securities market.
Analysts expect stability in residual value realizations throughout the year, prompting them to revise their wholesale market outlook haircut to neutral from negative for most auto lease asset backed securities (ABS). Despite a 16% jump in auto lease ABS return volume this year, Fitch Ratings explained in a news release that residual values are recording mostly gains across auto lease ABS going into summer.
Fitch Ratings also acknowledged the revision was driven by stronger than expected residual-value performance buoyed by plateauing lease returns expectations, slowing new-vehicle sales, favorable vehicle-return mix and strong demand for the affordability of used vehicles.
Against a backdrop of Fitch’s cautious U.S. economic outlook, Fitch’s outlook on auto lease asset performance is stable for 2019, while the ratings outlook remains positive for subordinate tranches. The revision to neutral from negative is expected to have a limited effect on Fitch expected residual loss levels for rated auto lease ABS tranches.
Analysts explained the wholesale market outlook haircut is just one of five qualitative haircuts that collectively lead to a 15%-25% haircut to Fitch’s base case residual value loss proxies. Further, Fitch’s through-the-cycle residual value loss proxy approach incorporates the most stressed 2008-2009 RV loss performance, which was most stressful for light trucks and SUVs, and results in lease ABS loss coverage levels of 27%-34% for all transactions.
Fitch pointed out that it applied a negative assessment to the wholesale market outlook haircut to all auto lease ABS from 2014 to 2018, reflecting swelling supply and the resultant expectations of downward pressure on residual values. Fitch’s ABS residual value index has seen steady residual maturities, which have not moved far from the peak of $7.4 billion in 2016.
“However, residual values have been stronger than forecast even with mounting vehicle supply, and the used vehicle market continues to absorb record return volumes,” analysts said.
Fitch recapped that its residual value index dipped briefly into nominally low-single digit losses at the end 2016. Today, analysts emphasized that demand for used vehicles remains healthy, with Fitch’s index reporting residual gains of 3.12% as of first-quarter 2019, slightly improved over 2.88% in first-quarter 2018.
Fitch’s residual value ABS index is expected to see lease return volumes peak in 2019 at $8.8 billion up from $7.3 billion in 2018. However, analysts acknowledged residual returns will then have plateaued and Fitch expects a 9% decline in lease maturities in 2020.
“Further, Fitch’s residual maturity expectations are conservatively projected using elevated return assumptions, while actual returns over the last four years have represented 88% of these expectations,” analysts said.
New-vehicle lease penetration was flat at roughly 30% through April, according to Black Book, consistent with a year earlier. Fitch is projecting lease volumes underwritten to decline, given a flat-to-lower sales forecast in 2019, and less demand for leases.
“New-vehicle sales have moderated with the slowing U.S. economy and many manufacturers pulled back on incentives in an effort to align production levels with demand,” said analysts, who are predicting new-vehicle sales of 16.9 million units in 2019, down from 17.3 million recorded in 2018.
Fitch mentioned the strong popularity of new and redesigned SUVs and CUVs resulted in high exposures to these vehicles in 2016 through 2019 vintage ABS transactions. These vehicles comprised an average of 57% of ABS pools in 2017, versus 47% in 2016 and 40% in 2015.
“This trend shows no signs of abating as manufacturers alter lineups to satisfy demand,” analysts said.
“However, these bigger vehicles are expensive and overall new vehicle prices rose significantly to around $33,000, on average currently, according to Black Book,” analysts continued. “This, along with the cost of financing purchases as interest rates rose marginally, shifted consumers to more affordable used vehicles, bolstering residual values.
“Further, smaller cars benefitted as affordability becomes a concern, and most of these vehicles have seen values rebound in late 2018 into 2019, as supply was tight while demand rose off record lows,” Fitch went on to say.
“In addition, as the U.S. economy enters its 10th year of expansion, late cycle macroeconomic concerns mount, and the used-vehicle market becomes more attractive as credit tightens,” the firm added.