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Your Next Subprime Nightmare

Posted August 20, 2015

Last week, I told you about seeing a $79,000 Chevy at the county fair — with taxes and tags, this shiny black behemoth would cost almost $90,000. That's a great deal of money for something that will be worth nothing in 15 years.

But it's not just Suburbans that come with a supercar price tag. The average cost of a new car in this county is now $33,560. The average price of a used car just hit an all-time high of $18,800, up 7.6% over the second quarter of last year.

This is in a country where the median household income was $52,250, according to the latest U.S. Census numbers from 2013.

Per-capita income for the U.S. is at $28,184. Both of these numbers are lower than they were in 2005.

Show Me the Money

Still, cars are selling, and driver miles are up.

Make no mistake; the American love affair with cars, which was written off just a few years ago, is back with a vengeance.

In fact, Americans now own more cars and are driving more miles than ever before.

According to Yahoo Autos:

IHS Automotive tracks vehicle registrations nationwide. It found that the total number of “light” vehicles in operation — passenger cars, SUV and light trucks — hit 257.9 million as of January 1, a jump of 2.1 percent from a year before. It’s the largest such jump IHS has recorded, driven by a combination of surging new-vehicle sales and a steep decline in vehicles scrapped. 

Meanwhile, the economy has put more drivers back on the road. After falling sharply during the recession, the government’s track of miles driven per month has grown steadily; in May it hit 275.1 billion miles. Over the past 12 months, federal experts at the U.S. Department of Transportation estimate Americans have driven 3.08 trillion miles, a new high that surpasses the peak reached in 2007 just before the global financial crisis.

We live in a world with stagnant incomes and ever-more expensive cars. The question is, how can people afford it?

They can't. According to credit rating company Experian:

  • Average loan term for new cars is now 67 months — a record.
  • Average loan term for used cars is now 62 months — a record.
  • Loans with terms from 74 to 84 months made up 30% of all new vehicle financing — a record.
  • Loans with terms from 74 to 84 months made up 16% of all used vehicle financing — a record.
  • The average amount financed for a new vehicle was $28,711 — a record.
  • The average payment for new vehicles was $488 — a record.
  • The percentage of all new vehicles financed accounted for by leases was 31.46% — a record.

Auto loans now top $1 trillion, which is 10.5% higher than last year. Subprime loans — those with low credit scores and a higher risk of default — increased to 23.5% of new loans.

So people are paying big money over a long time using dubious loans to buy flashy cars. "So what?" you may ask. "It's their money." The problem is that this money is bundled and sold as high-yield debt instruments to investors.

This is something we saw just eight years ago in the housing market. In 2006, subprime loans were 20% of the housing market. That same thing is happening again in the auto market. You get no return from holding T-bills, so people reach for yield. And where there is demand, there are people who will sell subprime loans whether people need them or not.

Furthermore, at least in housing, these loans were based on an asset that had traditionally gone up over time. Cars, outside of collectors' items, never go up in value. You lose 20% driving off the lot. Everyone who takes a six-year-plus loan is underwater as soon as they sign the papers.

Repo Man

The number of car repossessions was up 16.9% in the first quarter of 2015, and charge-offs for bad loans jumped from $600 to $7,401.

While the total amount of auto debt is dwarfed by the amount of mortgage debt, any hiccup in jobs or even a hike in interest rates would send defaulting dominoes cascading through the industry.

Next week, I'll tell you how Obama and GM conspired to set up this leaning tower of risk and which loan companies you should avoid.

All the best,

Christian DeHaemer Signature

Christian DeHaemer

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Christian is the founder of Bull and Bust Report and an editor at Energy and Capital. For more on Christian, see his editor's page.

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