Auto Loans: Is the New York Fed Sending the Wrong Signal? | Lord Abbett

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Fixed-Income Insights

In our opinion, the NY Fed’s report on auto loans misses the mark; our monthly review of loan performance indicates broad-based strength in consumer fundamentals, with levels of default and delinquency stable to improving.

At the close of 2018, U.S. consumer asset-backed securities, or consumer ABS, totaled $870 billion in outstanding bonds, which represents about 22% of the $3.95 trillion in U.S. consumer credit1 today (as of March 30, 2019).  At Lord Abbett, we have found consumer ABS backed by auto loans to be an attractive source of risk-adjusted return for many of our portfolios, given a strong U.S. consumer, a robust regulatory framework, appealing sector fundamentals, broad scalability, and reliable bond liquidity.

As participants in the auto ABS market, we look to key data sources for insights on the health of the U.S. consumer, and the Federal Reserve Bank of New York’s (NY Fed) Quarterly Report on Household Debt and Credit is no exception.  When the NY Fed published an article2 recently interpreting some of the aggregated data on auto loan performance and loan quality, we paid close attention.  We appreciate the NY Fed’s depth of data relating to consumer financial conditions, but we find the conclusions drawn regarding the declining health of the consumer to be unsubstantiated given other crucial variables at play.

We note the data that subprime lending activity in the auto space expanded materially during the economic recovery following the Great Recession of December 2007 to June 2009.  As the Fed contributed to looser financial conditions, post-recession, and strength returned to capital markets, competition in many facets of lending increased, driving costs lower for borrowers of all kinds—consumers and corporations alike and of varied credit quality.   Because consumers placed a higher priority on paying their auto loans relative to their mortgages throughout the Great Recession, the auto lending sector recovered rather quickly along with the broader economy after the recession.  The subprime auto sector in particular enabled those who may have had damaged credit scores, due perhaps to mortgage or student debt delinquency, to still qualify for an auto loan and get to work, even while the economy was in a nascent stage of recovery with uncertain prospects for growth.

Years later, in 2016, we noted that lending standards in auto finance had loosened to a point where observed loan performance suggested unsustainable lending practices existed.  As loss rates began to climb and lenders’ profits disappeared, we eventually saw tighter financial conditions enter the auto finance market—a response that is part of a natural feedback loop existing in a healthy credit marketplace.  In fact, since mid-2016’s trough in underwriting standards, we have observed a net tightening of lending standards in 10 of the previous 11 quarters as reported by the NY Fed’s Senior Loan Officer Survey of new and used auto lenders.  Furthermore, on a vintage basis we have observed that subprime auto loans which originated in 2017 and 2018 are trending toward lower rates of default than those originated in 2015 and 2016 to the tune of 250-500 basis points annually for some lenders, holding other variables constant such as originator and credit quality.


Chart 1: Auto Lending Standards Began Tightening in Third Quarter 2016
Net percentage of auto lenders tightening standards on consumer loans as reported by the NY Fed Senior Loan Officer Survey (Data collected for second quarter 2011 through first quarter 2019)

Source: The Federal Reserve Bank of New York, Senior Loan Officer Opinion Survey on Bank Lending Practices, Auto Lenders.  The historical data shown are for illustrative purposes only and do not represent any specific portfolio managed by Lord Abbett or any particular investment. 


We estimate that auto loans originated in the years 2015, 2016, and earlier still account for at least 35% of auto loans outstanding in the United States.  That means that, despite any recent improvements in lending standards, there is still a material amount of lesser quality loans in existence.  As such, the relatively weaker lending standards from back then are still very much at play when observing any rise in aggregate loan delinquency.

So when the NY Fed states in their article that “the overall performance of auto loans has been slowly worsening, despite an increasing share of prime loans in the stock,” they are implying that some other factor must be the source of this weakness, and, in fact, they point to the consumer.  When they state that “the flow into serious delinquency in the fourth quarter of 2018 crept up to 2.4%, substantially above the low of 1.5% seen in 2012,” they are glossing over the poor quality of loans originated in 2015 and 2016, which are playing a large role in that rise.  The direction of underwriting standards from 2012 to 2018 has not been linear, and if anything, we believe the presently tighter financial conditions in auto finance should be seen as a harbinger of declining delinquencies 12 to 24 months from now, all else being equal.

The NY Fed article concludes by stating that “the substantial and growing number of distressed borrowers suggests that not all Americans have benefitted from the strong labor market.”  While we have anecdotal evidence that confirms this statement, we believe the facts presented by the NY Fed make that conclusion a bit ambitious.  Given additional insights we provide here what the NY Fed article omits, we observe:

  • first, that underwriting is the active variable driving observations in loan performance—not a suddenly weak consumer;
  • second, that the direction of loan performance is improving on a vintage basis; and
  • third, that any observed  rise in delinquencies is likely due to the seasoning of older vintage auto loans, and not due to a weaker U.S. consumer at present.

Consequently, we would expect the tighter lending conditions observed recently in auto finance to present lagged positive impacts on aggregate balances of delinquency.

While we are certainly mindful of the risks posed via investing in auto ABS, our monthly review of loan performance related to Lord Abbett’s $20 billion of holdings in the consumer ABS sector (as of March 30, 2019) indicates broad-based strength in consumer fundamentals, with levels of default and delinquency stable to improving relative to two years ago.


1Sources: Securities Industry and Financial Market Association, Federal Reserve Bank of New York.

2Just Released: Auto Loans in High Gear, Liberty Street Economics, February 12, 2019.


Past performance is not a reliable indicator or a guarantee of future results.

A Note about Risk: The value of an investment in fixed-income securities will change as interest rates fluctuate and in response to market movements. As interest rates fall, the prices of debt securities tend to rise. As interest rates rise, the prices of debt securities tend to fall. High-yield securities, sometimes called junk bonds, carry increased risks of price volatility, illiquidity, and the possibility of default in the timely payment of interest and principal. Bonds may also be subject to other types of risk, such as call, credit, liquidity, interest-rate, and general market risks. Lower-rated bonds carry greater risks than higher-rated bonds. The principal risks associated with bank loans are credit quality, market liquidity, default risk and price volatility. While bank loans are secured by collateral and considered senior in the capital structure, the issuing companies are often rated below investment grade and may carry higher risk of default.

Moreover, the specific collateral used to secure a loan may decline in value or become illiquid, which would adversely affect the loan’s value. Longer-term debt securities are usually more sensitive to interest-rate changes; the longer maturity of a security, the greater the effect a change in interest rates is likely to have on its price. No investing strategy can overcome all market volatility or guarantee future results.

Forecasts and projections are based on current market conditions and are subject to change without notice. Projections should not be considered a guarantee.

This article may contain assumptions that are “forward-looking statements,” which are based on certain assumptions of future events. Actual events are difficult to predict and may differ from those assumed. There can be no assurance that forward-looking statements will materialize or that actual returns or results will not be materially different from those described above.

Any examples provided are for informational purposes only and are not intended to be reflective of actual results.


An asset-backed security (ABS) is a financial security collateralized (or “backed”) by a pool of assets such as loans, leases, credit card debt, royalties or receivables.

A basis point (bps) is equal to 1/100th of 1%, or 0.01%, or 0.0001, and is used to denote the percentage change in a financial instrument.

The information provided is not directed at any investor or category of investors and is provided solely as general information about Lord Abbett’s products and services and to otherwise provide general investment education. None of the information provided should be regarded as a suggestion to engage in or refrain from any investment-related course of action as neither Lord Abbett nor its affiliates are undertaking to provide impartial investment advice, act as an impartial adviser, or give advice in a fiduciary capacity. If you are an individual retirement investor, contact your financial advisor or other fiduciary about whether any given investment idea, strategy, product or service may be appropriate for your circumstances.

The opinions in this article are as of the date of publication, are subject to change based on subsequent developments, and may not reflect the views of the firm as a whole. The material is not intended to be relied upon as a forecast, research, or investment advice, is not a recommendation or offer to buy or sell any securities or to adopt any investment strategy, and is not intended to predict or depict the performance of any investment. Readers should not assume that investments in companies, securities, sectors, and/or markets described were or will be profitable. Investing involves risk, including possible loss of principal. This document is prepared based on the information Lord Abbett deems reliable; however, Lord Abbett does not warrant the accuracy and completeness of the information. Investors should consult with a financial advisor prior to making an investment decision.

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