‘People are buying cars they shouldn’t be’: subprime autos are the next crisis – The Guardian

Posted: Monday, October 13, 2014

Carl runs an auto disposal service in rural Tennessee, dismantling older cars, selling the individual parts, and turning the rest into scrap metal. Carl’s lot is starting to run out of room. “People are buying cars they shouldn’t be buying.”

Many of the cars are sent to him by repo men: “I do my best business when others are doing their worst. Someone loses a job, I gain a car.”

Many people are buying those cars with they help of Wall Street banks, which are lending money to people with bad credit again – just as they did prior to the financial crisis of 2007. In the last crisis, it was houses.

The $26bn worth of subprime car loans is far short of the $500bn of subprime real estate securitization in 2006, at the top of the housing bubble, partly because cars are a lot cheaper than houses.

This time, like last time, Wall Street isn’t directly lending poor people money. That part is done by an array of smaller financial companies in strip malls and office parks.

The smaller financial companies sell the loans to Wall Street. Wall Street puts them into big piles, sorts them from weakest to strongest credit scores, and then sells the pieces and parts of them to their customers. The customers can be hedge funds in Greenwich, Connecticut, or other banks. No part of the loan goes unsold: from the highest rates to the lowest-rated, buyers are always there.

This process is called subprime securitization, and about $26bn of it will be done this year in auto loans to poor people.

Who are these borrowers? To quote Wall Street: “Obligors who do not qualify for conventional motor vehicle financing as a result of, among other things, a lack of or adverse credit history, low income levels and/or the inability to provide adequate down payments.”

Meaning people who usually can’t borrow money. They are mostly the working poor in places like Texas and Florida, places that don’t have much public transportation, places that require a car to get a job, to shop, to bring children to day care, to drive to the dollar store or Walmart in the strip mall.

These are loans that charge on average 17% a year, often exceed 20%, and sometimes are as high as 30%.

Carl would recognize this securitization system for what it really is: A disposal service, but for bad car loans instead of cars.

The market for subprime auto has somersaulted into the sky. But what goes up must come down.
Photograph: Chris Arnade

If 20% for a loan isn’t onerous enough, many now come with a technological twist: the newer loans will turn off your car if you fall behind. As described in the New York Times:

“Before they can drive off the lot, many subprime borrowers … must have their car outfitted with a so-called starter interrupt device, which allows lenders to remotely disable the ignition. Using the GPS technology on the devices, the lenders can also track the cars’ location and movements.

By simply clicking a mouse or tapping a smartphone, lenders retain the ultimate control. Borrowers must stay current with their payments, or lose access to their vehicle.”

The $26bn of the financial crisis alone is not enough to cause a financial crisis, but the philosophy behind it is.

These are loans to desperate people at desperate rates being facilitated by Wall Street. The process of securitization – cutting up and distributing loans – means the middlemen do all the work. The lender never meets the borrower. It makes it all the easier for a rich hedge fund manager in Greenwich to justify lending to an electrician in El Paso with a crappy credit score. There is long line of people between them. They meet financially, but neither has a real clue about the other.

This long, anonymous line through Wall Street dampens any noise that might come from financial bubbles, turning it into an antiseptic process denuded of humans or stories.

Securitized bonds are just blips on the screen, numbers in a spreadsheet, and 100-page documents filled with legal language and data. They are not a working mother trying to juggle two jobs and manage her commute. They are not an older couple trying to maintain a social life. They are not a young man trying to buy a car he can’t afford to impress women he will never date. They are simply assets, with names like “Exeter Automobile Receivables Trust 2014-1.”

When I worked on Wall Street I helped securitize loans for manufactured housing, meaning mobile homes. The average size of the roughly 12,000 loans that made up the bond was around $65,000 each. My bosses and colleagues couldn’t stop finding that low amount funny.

“Damn, why not just buy a car and live in it? That way you can run away from tornadoes.”

When a rash of tornadoes did sweep across the south, wiping out parts of small towns, one of my bosses asked me, “Remind me, is that good or bad for our bonds?”

The market for cars has lost its balance, and the consumer may come crashing down.
Photograph: Chris Arnade

That emotional numbness provided by securitization makes it all the easier to lend at 23%. It makes it easier for the loans to come with the ability to turn the car off after a missed payment. That feature just becomes a bullet point in a power point presentation, a number in a spreadsheet, a bump up in the probability that the Exeter Automobile Receivable Trust 2014-1 will pay.

It’s about maximizing one number in a vast array of connected other numbers. It’s a fun game for all sides, until someone loses a car.

At each step the connection between the lender and borrower frays. At each step fiduciary and financial responsibility frays. At each step common sense is diminished.

The last financial crisis was about a housing bubble. A housing bubble that happened because of a frenzy of buying by a public eager to borrow, with money lent by distant investors desperate for profits. The sound of that financial crises growing was rendered silent by securitization. Just blips on the screen, numbers, on spreadsheets and computers.

When it collapsed it wasn’t quiet at all.


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