The global outlook for Auto Back Securities (ABS) is steady – except in North America, where underwriting standards and borrower credit are slipping.
The latest news comes from ratings agency Moody’s, which issued a new report on the popular investment vehicle. Sanjay Wahi, Vice President and Senior Analyst, stated
“Globally, auto loan ABS pools will continue to consist primarily of loans to prime borrowers. The exception is the US, which has a sizable market for securitizations backed predominantly by near-prime and subprime borrowers.”
Moody’s has long been bearish on subprime ABS in the United States. Both Europe and China are cited as having safer loan pools due to stronger underwriting standards and more rigorous loan terms. But the United States is unique in the predominance of subprime loans, perhaps in part due to the demand for specific sections of ABS (called “tranches” in the investment world) which are comprised of the riskiest subprime loans.
ABS has become a popular security in recent years, with subprime driving much of its growth. With fixed income yields at historic lows, investors are hungry for securities that will provide decent returns. ABS, particularly the subprime tranches of these securities, are among the few products that can provide them – their greater risk profile entails the potential for a higher return. Some have argued that the demand for ABS has led to the growth in subprime financing, with looser underwriting standards (in some cases, they are laughably lax) and a number of OEM captive financing arms that are all too willing to finance buyers with poor credit so that they can “move the metal”. Traditionally, the thinking has been that most buyers are sufficiently trustworthy enough to make their payments on time, and able to offset the few delinquent buyers – but that trend appears to be reversing as of late, with delinquencies on the rise. And if the latest trends outlined by Moody’s are any indication, this isn’t likely to reverse.