Regulator Raises Red Flag on Auto Lending – Wall Street Journal

Posted: Thursday, October 22, 2015

Comptroller of the Currency Thomas Curry is concerned about the risks auto loans may pose to banks’ safety and soundness.

WASHINGTON—A top financial regulator warned of risks in the fast-expanding auto-lending sector, raising the prospect of fresh regulatory pressure in an area that has been a bright spot for banks.

While policy makers have generally declared the U.S. banking system recovered from the financial crisis, Comptroller of the Currency Thomas Curry raised a rare red flag, saying in a speech that some activity in auto loans “reminds me of what happened in mortgage-backed securities in the run-up to the crisis.”

“We will be looking at those institutions that have a significant auto-lending operation,” he told reporters after the speech. Many mortgage-backed securities thought to be safe turned sour during the financial crisis, leading to heavy losses across Wall Street.

The comments are likely to raise concerns in particular at firms like Wells Fargo


& Co. and other national banks active in auto lending that are regulated by the comptroller’s office. Mr. Curry’s vow of closer scrutiny wouldn’t affect their competitors at lenders owned by large auto manufacturers.

When the comptroller in the past has raised questions about loans being risky—as it has done since 2013 with leveraged loans to heavily indebted corporations—regulators have turned up the heat to the point that banks have dialed back products, even when they were profitable.

Auto lenders denied they were taking excessive risks. Richard Hunt, president of the Consumer Bankers Association, said the lenders his group represents “are applying prudent underwriting standards in order for consumers to have access to safe and affordable transportation.”

Wells Fargo spokeswoman declined to comment on Mr. Curry’s remarks.

A spokeswoman for Ally Financial Inc.,


one of the largest U.S. auto lenders, said “Ally has a comprehensive underwriting process for auto-finance contracts that has been proven over time.” Ally’s banking unit is primarily regulated is the Federal Deposit Insurance Corp.

Some firms have already moved to protect themselves.

“We are seeing some actions by some financial institutions to make sure their auto-loan portfolios are well-balanced,” said Michelle Krebs, senior analyst at AutoTrader, a car-shopping website, which tracks industry data. “So far, we have not seen increases in delinquencies or late payments, so we aren’t alarmed by any stretch.”

This isn’t the first time regulators have cast a spotlight on auto lenders.

In March, the Consumer Financial Protection Bureau raised concerns about consumers taking on too much auto debt, and some large financial firms have faced investigations regarding unfair auto-lending practices.

But Mr. Curry’s concerns focused on the risks auto loans may pose to banks’ safety and soundness. Lower-level OCC officials have previously raised similar concerns. The Federal Reserve, which also regulates banks, hasn’t made any public statements about auto-loan problems.

Mr. Curry’s comments were striking at a time when bank loan growth has been robust, credit quality is seen as strong and the industry is broadly thought to be far more stable than it was during the most recent recession. In addition to his warnings on auto loans, he also cited loans for multifamily homes and lending to other financial institutions as other areas in which banks should be wary of concentrating risk.

“Banking is a cyclical business,” he said. “It’s time to pay attention because the status quo is not going to last forever.”

Auto lending has been increasing in recent years amid historically low interest rates, cheap gas and stronger consumer demand. Auto loans also performed relatively well during the financial crisis, which market watchers have interpreted as a sign that the loans are safe because even cash-strapped households must pay for transportation. Auto lenders also have an easier time collecting collateral on a delinquent auto loan—by repossessing the car—than they do foreclosing on a house covered by a bad mortgage.

Those factors have emboldened banks and other financial firms to offer relatively attractive terms even to borrowers with low credit scores. In the second quarter of 2015, auto debt owed by U.S. households rose above $1 trillion for the first time, up more than 10% from a year earlier.

Mr. Curry said auto lending at banks supervised by the comptroller’s office, which includes most of the largest banks in the U.S., accounted for more than 10% of retail lending during the second quarter, up from 7% four years earlier. Banks are increasingly moving these loans into securities, rather than holding them in a portfolio, he said, similar to the way mortgages were packaged and sold to investors ahead of the financial crisis.

Some banks, such as J.P. Morgan Chase


& Co. and Wells Fargo, said they hold in their own portfolios the auto loans that they make, suggesting they wouldn’t take on risk they considered unwise. But others have sold loans to investors who want to snap up securities backed by these loans. Through early September, Wall Street firms issued nearly $70 billion in securities backed by auto loans, up 9% from the same period a year ago, according to J.P. Morgan. About $21 billion of those were backed by subprime loans to relatively risky borrowers.

Subprime car-loan originations have taken off in recent years as lenders have loosened underwriting criteria in this sector, allowing for borrowers with low, and often no, credit scores to get access to financing. During the first half of 2015, lenders gave out $56.4 billion in subprime auto loans, up 13% from the same period a year ago and up 181% from the first half of 2009, when the market for these loans bottomed out, according to credit-reporting firm Equifax Inc.


Subprime car loans account for 20% of the car-loan dollars given out from January through June, the highest share for the period since 2008, according to Equifax.

More borrowers are getting into car loans with longer repayment periods, a sign that the cars they are buying are beyond their financial means. Longer repayment periods shrink monthly payments, making it easier to afford the loan, but they also make it more likely that the borrower will owe more on the car than it is worth.

Some 29% of the new car loans given out in the second quarter of this year had a repayment period of 73 to 84 months, up 20% from a year ago, according to Experian Automotive, a unit of credit-reporting firm Experian.

Corrections & Amplifications

Ally Financial’s banking unit is primarily regulated by the Federal Deposit Insurance Corp. An earlier version of this article indicated that it was a national bank regulated by the comptroller of the currency.

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