Sunday, December 30, 2007

Running on empty....

Fasten your seatbelts, it's going to be a bumpy night!

Los Angeles TIMES

New cars that are fully loaded -- with debt Americans are rolling over loans, often ending up owing more for the vehicle than it's worth.

By Ken Bensinger / Staff Writer

December 30, 2007

When Jennifer and Bobby Post traded in their 2001 Chevy Suburban last year for a shiny new Ford F-350 turbo diesel with an extended cab, it seemed like a great deal. Even though they still owed $9,500 on their SUV after the trade-in value, they didn't have to put a penny down.

The dealership, near the Posts' home in Victorville [California], made it easy; it just added the old debt to the price of the new truck and gave the couple a seven-year, $44,276 loan.

The Posts were a little worried about taking on such a long obligation, but they couldn't pass up a monthly payment under $700. Now they're having regrets.


"I didn't realize how much debt was in it," said Jennifer Post, who has since moved with her family to Iowa. Now, she'd like to get rid of the truck but can't, because there's so much debt that she'd literally have to pay someone to take it off her hands.

"We have no options," she said.

Americans haven't just been taking out risky mortgages for homes in the last few years; they've also been signing larger automobile loans for significantly longer terms than they used to.

As a result, people are slipping into a perpetual cycle of automobile debt that experts think could lead to a new credit crunch extending from dealerships to driveways and all the way to Wall Street.


Aren't you glad that they've tightened consumer bankruptcy laws, making this "perpetual cycle" more like good old-fashioned debt peonage?

Gone are the days of the three-year car loan. The length of the average automobile loan hit five years, four months in October, up more than six months from 2002, according to the Federal Reserve. And nearly 45% of loans written today are for longer than six years. Even some staid lenders owned by the carmakers, such as Toyota Financial Services and Ford Credit, are offering seven-year financing. And a few credit unions, particularly in the West, are tinkering with the eight-year note.

Credit unions, alas, are acting more and more like commercial banks. They used to be more responsible to their members.

At the same time, the amount of money drivers owe on their cars is soaring. In October, the average amount financed hit $30,738, up $3,500 in just a year and nearly 40% in the last decade, according to the Fed. More troubling, today's average car owner owes $4,221 more than the vehicle is worth at the time it's sold -- up from $3,529 in 2002, according to industry analyst Edmunds.

it's an understatement to say that that's much too much!

... It's not just individual consumers who are at financial risk. Nationwide, an estimated $575 billion in new and used auto loans are written every year by auto manufacturers, banks, credit unions and other lenders. About 30% of the loans that are originated by banks, and 100% of those issued by automaker financiers, are, like mortgages, repackaged and sold as securities, according to the Consumer Bankers Assn.

Aha! more securitization, in which spreading the risk around so that people can't perceive it anymore is treated as if it were abolishing risk.

Analysts warn that just as investors didn't comprehend the risk inherent in some of the more exotic home mortgages in recent years, they aren't considering how risky these car loans are. If longer loan terms allow debt on the loans to grow too large, many drivers may simply default, leading to expensive repossessions.

And even those who keep paying their bills may reach a point, like Gerhardt, where they simply can't afford another car. That could send vehicle sales down the drain, a nightmare scenario for an industry that has already taken a hit this year from slower consumer spending and higher gas prices.

It could also lead to serious losses among financial institutions that have invested in car debt. Among securitized auto loans, two-thirds have terms longer than 60 months, a fact that Standard & Poor's, which rates auto debt for sale on the secondary market, calls a "credit concern."

This month, S&P reviewed its ratings on $113.5 billion in auto loan securities it rated in the last two years out of concerns over growing losses. It didn't make any downgrades but predicted that "rising losses will continue into 2008 across all segments of the auto loan market."

S&P has found that delinquencies of more than 60 days on car loans issued this year to borrowers with the best credit are up 20% compared to those issued last year, while delinquencies on loans issued this year to subprime borrowers increased by 16%. Delinquency rates on car loans are still far lower than on mortgages, but there is growing concern in the financial services industry. Indeed, Tom Webb, chief economist of used-auto analyst Manheim Consulting, said he expects the tally for 2007 repossessions to be up by 10%.


Sounds like it's time to crank up that old Emilio Estevez movie, REPO MAN.

Mark Pregmon, executive vice president for consumer lending at SunTrust Bank, is among the concerned. "Any time you extend the maturity of the loan, you take on more risk. The question is whether there's enough assessment of that extra risk," he said. "Obviously, it's a problem. It's a house of cards."

You took that cliché right out of my mouth!

In the 1970s and '80s, car loans hovered between 36 and 48 months, and drivers typically kept their cars longer than the life of the loan. A number of factors changed that.

One key was interest rates, which fell from a high of 17.8% in the early 1980s to lower than 5% today, according to the Federal Reserve. Another was affordability. According to an index tracked by Comerica Bank, cars have steadily gotten more affordable -- as compared to median family income -- since the late 1990s.

With cheap money at hand for more-affordable cars, the temptation to keep buying became huge. Today, according to Pregmon, financed cars are typically turned over in 24 to 36 months.

At the same time they were extending loan maturities, lenders, competing with one another, began offering more money and requiring smaller down payments.

Today, most lenders offer financing on 100% or even 125% of the sticker price, and some offer the most credit-worthy buyers loans for twice the value of the vehicle they're purchasing. Last year, the average amount financed for new cars reached 99%, according to the Consumer Bankers Assn., up from 95% in 2005.

Lenders are beginning to brace themselves; many have said they intend to tighten standards and require larger down payments.

Despite warnings from S&P, the Consumer Bankers Assn., Lehman Bros. and others, there is little sign that the automobile industry is willing -- or, with consumers demanding low payments, even able -- to reduce the lengths of the loans they issue.

"For banks, it's a matter of meeting consumer demand: no money down and extend the term," said SunTrust's Pregmon. "But as a lender, you've got a moral obligation as well. Are we putting the clients in loans they can't afford?"

Here's another reason to have the government standardize loan agreements and then have the financial sector compete over interest rates.

ken.bensinger@latimes.com

Copyright 2007 Los Angeles Times

--
Jim Devine / "Segui il tuo corso, e lascia dir le genti." (Go your own way and let people talk.) -- Karl, paraphrasing Dante.

20 comments:

rosserjb@jmu.edu said...

Interesting story. I was unaware of this trend to longer car loans. These ones that decline more slowly than the value of the car stick out especially as foolish.

The one odd bit in the story that did not make much sense was the claim that part of this is being driven (hack, cough) by cars becoming "more affordable." Huh? That would seem to suggest needing less debt and being able to pay off better. After all, it was claimed that part of what drove the exotic and subprime mortgage craze was just the opposite, the increase in the house price to income and rent ratios.

Barkley

Anonymous said...

Barkley beat me to the punch on the "more affordable" statement, but I also don't see the how the value of the car being less than the value of the loan is a big problem unless the car is sufficiently old that its repair costs are significant, and I don't think this typically happens in six years (seven or eight, maybe). After all, most of these people won't go carless, so they can just hang on to their cars longer than they were planning on. The only obvious macro impact I can see for consumers is that used car prices might go up. If public transportation were a viable alternative it would be different, but this is generally not the case.

Anonymous said...

Yep, the need to stretch out to 60 and I think I've heard of 72 mos auto loans has nothing to do with 'more affordable' but the contrary. Same goes for 40, and then earlier last year, 50 year mortgages -- lower than otherwise payments. Debt accumulation and growing 'upside down' condition is a macro phenomenon associated with long run decline/stagnation of real wages and increase in credit dependence as individuals and families struggle with unaffordable living standards while, at the same time, profit realization (sales) demands continuance of what can't be continued.
There are limits to such an 'economy'.

Michael Perelman said...

Cars become more "affordable" by stretching out the maturity of the loans, but that does not necessarily mean that this affordability is a benefit for consumers.

Econoclast said...

I didn't understand the "more affordable" bit either.
Jim

Anonymous said...

Gentlemen,
A little disclosure. I sell cars. Expensive cars. So what does the 60, 72 and, yes, the 84 month loan mean to those of us in the business. While I do counsel my customers to the added expense of the longer terms, many in the business regard the financing as an important profit center. You have no idea of the level of competition and its effect on the selling price of a car. The result is to make it up on the "back end" of the deal. The profit on an inexpensive car can be negative. That's right, a loss on the selling price. Vat den? After sale and financing. Lose $500 on the car and make $2,000 on the back end. Every buyer wants a cheaper price, and the less savory dealers are only too happy to provide same. In the turbulent seas of the car sales world the shark survives. Most dealerships have "experts" who handle the sale after the initial deal has been signed. That's step one, setting the price of the vehicle. The F&I expert then restores the deal to profitability.
The average customer seems to love the process. They get to hondel on the price and beat up the poor salesperson. Finance $35,000 over 72 months with a 1.5% to 2% mark-up and the deal is profitable. Add an extended warranty, a locater device, etc and the profit is mounting as we speak.

There is nothing particularly rationale in many buyers decision making when it comes to car sales,
and I haven't even begun to describe the wonders of leasing your next vehicle. Just remember that the guy looking for the cheapest price at point of purchase is most likely to get the most expensive deal.

Econoclast said...

Jack writes; >The profit on an inexpensive car can be negative. That's right, a loss on the selling price. Vat den? After sale and financing. Lose $500 on the car and make $2,000 on the back end. Every buyer wants a cheaper price, and the less savory dealers are only too happy to provide same.<

this is why laypeople often tell each other the following hard-to-follow advice: bid the salesperson down as much as possible and then pay for the car entirely in cash.

I've never heard of anyone actually doing that.
Jim

Anonymous said...

jim

me.

and my 30 year old vw runs just fine.

Anonymous said...

jim,
You never heard of that only if you live outside of a major metro area. In NY it's part of the business. Those who pay cash and buy no other "after sale" will end up with the low price, but only when the type of vehicle they want has been over built. It's like any other product. If you wait for the year end sale, so to speak, you have less to choose from. If you want something that's hot at the moment you will pay full price for it. Any one thinking that they will get the upper hand on a car deal is forgetting that the dealerships do it everyday and all day. In effect, when you want to know what price you can't buy the car for just look at the local dealers' ads. What ever they're saying is the price of the century they're meaning the past century, and the last unit "just went to the little old lady in the pill box hat." But have I got a deal for you for just a little more money, and it's still a steal. It's a tough business.

Bruce Webb said...

Oddly enough just such a strategy plays a central role in a war novel I read. The hero bargains the price of the car down and being a pre-WWII marine clearly has no cash, so the car dealer is in hog heaven. Except for those big winnings in that last poker game in Shanghai which allow him to pay cash and drive away leaving the dealer flat. (Did I mention this was a novel? And that the hero was the son of an child beating used car dealer?)

In any event some of us folk who didn't fall off the turnip truck yesterday understand that GM probably made a lot more money out of GMAC than they did actually selling cars on a price/cost basis.

Anonymous said...

Jack,

Much/any experience on the used car side or with collector cars?

Anonymous said...

juan,
I just sold, several months ago, my own '52 Aston-Martin DB-2 after holding it for 27 years. Collectibles are hot now and for the past several years. I replaced the Aston, with only 25% of the procedes of that sale, with a daily functional '88 Porsche 911 Targa. Not really collectible, but fun to drive and reliable.

We do new and used Porsches where I work, and an ocassional older Porsche, collectible or not. The collector car market is more rational in regfards to the buy and sell process, not necessarily the prices. Old cars and collector cars are more of a passion, and can't be duplicated at another store. So competitive pricing and haggling is less a part of the process. Quality and identity are the primary issues. I had, myself, intended to replace the Aston with a '60s vintage Triumph TR-3AorB, but greater sanity got the bwetter of me when I found the less collectible, but far more functional Porsche. To say nothing of the significant performance difference.

Anonymous said...

i have to wonder if the used car dealers car is anything like the mechanics car.

the best i ever saw was an old citroen a mechanic in Florida had put together from junk yard parts. it had five different colors...doors, fenders. and a few hand built parts you can't buy anymore.

Anonymous said...

With used cars it's the old cliche of "let the buyer beware." If the price is too good to be true, then that's what it is, not true. The safest place to buy a used car, I'm talking late model less than four years or so, an authorized dealer for that car when new is the safest place to buy. If the car is an oldy but goody and you can't live without it, just have some truly trustworthy person check it out. Don't use one of those "I'll check it out for hire" guys. The seller is likely to slip the guy more than you paid him to give the car a good report. A CarFax for cars that are less than ten years, or so, is a good first step. If the seller is a dealer they should be happy to provide a copy of the report. If such a dealer/seller has no such report you can expect the worst.

It's not magic. Just common sense. The buyer looking for the lowest price is the one likely to get the worst used car.

Anonymous said...

Thanks Jack,

Perhaps I shouldn't admit this but, having been a used car salesman for a short period and having owned different primarily muscle car era vehicles for decades, I know what you're talking about.

Closest that I've come to purchasing a Porsche was a completely restored 1987 911 which the owner was - owing to overseas relocation - desperate to sell. Would you believe $4000 in 1997, and worse, that I didn't pick it up. Other hand, when I allow myself to think of it, still can't believe that I sold the '62 Max Wedge Dodge Dart (think 'little old lady from Pasadena' or Ramchargers) that I'd had or a few others on the same line.

Anonymous said...

correction: should have read 1978, not 1987, and 'completely restored' = complete mechancical resto.
cosmetics were virgin and ~avg

Anonymous said...

well, i guess that's what i mean.

why we need more "growth." think of poor people who can't afford a vintage aston martin.

now i get along with a '77 VW. runs fine. may explain my attitude toward the poor poor as well as the poor rich.

Anonymous said...

coberly,

Don't get too bent out of shape. That Aston was purchased a long while before classic cars started sky-rocketing in value. Around '98they crapped out before going up again to their current values. Those values are no doubt do to, in large measure, the growth of "silly spending" money amongst the wealthy, which unfortunately I am not one of. I did benefit from the climb in value. I'm still waiting for my childhood stamp collection to afford me a luch retirement. It is now about 45 years old, the collection that is.

Looking back I'd have done a lot better in 1980 putting the purchase price of the Aston into Microsoft or Berkshire Hathaway. Go know!!!

Anonymous said...

Sorry, that's "due to." Reminds me of an old Irish cliche with an sutomotive flavor that says it all, "Therrr ya go agin, puttin' yurrr mouth in gear afore ya brain's engaged."

Anonymous said...

jack

not bent.

used to lust after aston martins myself.

but in the context of global warming debate (not is it happening, but what do we do about it) and a lot of nonsense about the poor rich and the poor poor i like to point out from time to time how ridiculous we are.