Why are banks still financing car loans?

It’s a question we’ve been asking. With high unemployment rates and exponentially higher repayment issues, banks are still giving out auto loans.

At the end of September, approximately 3.8 million auto accounts were enrolled in some form of financial accommodation program, meaning the owners couldn’t make their payments. It’s understandable with mass lay-offs and widespread economic hardships. As stimulus money fizzles out, some suspect this number to increase. 

So why are banks still financing loans? Well probably because the reward outweighs the risk. Due to Covid-19 shutdowns, inventory shortages , and reduced consumer confidence, less people are buying cars. In Q2, loan originations were down by 11.9% year-over-year. Basically, banks want to make money, and they need people to take out loans in order to do that, even if they have to risk a number of those not getting repaid. 

Low rates are luring borrowers in. In February 2020, average rates were around 4.5%. In November we were averaging 4.2%. Many lenders are protecting their investments by requiring their borrowers to purchase gap insurance and extended warranties on vehicles. 

There’s also the fact that people  make car payments over house payments when forced to choose between the two, as proven in the ‘08 crash. Repossession happens faster than foreclosure, and people need their vehicles to get to work, take kids to school and go to the grocery store. Surprisingly, TransUnion has actually seen stable repayments this year. Serious delinquencies were at a 10-year low in Q3 at 2.35%. 

The problem for consumers is that they’re getting stuck upside-down in these loans. Most are transferring some negative equity, which puts them in a hole to begin with. Then they’re agreeing to longer terms of 72 or 84 months, so they can afford the monthly payments, meaning that it will be 3-4 years before they’re even in the black. But, as we mentioned earlier, people need cars and will typically choose these long-term loans if it means being able to afford one.

As long as there are people who want to buy cars, there will be banks willing to lend. And until banks start recouping lost funds due to 2020’s economic hardships, they will be willing to give loans to pretty much anyone.