Why Subprime Auto Loans are not like Subprime Mortgages

Subprime auto loans have been getting a lot of attention recently; especially after comedian John Oliver dedicated a segment of his HBO show “Last Week Tonight” to the topic. The fact is that subprime auto loans are on the rise, and this has led many people to worry that this increase could eventually lead to another financial crisis in the same way as subprime mortgages were the primary cause of the most recent economic crisis.

While there are undoubtedly a few similarities between subprime auto loans and subprime mortgages, it would still seem that the fears of a subprime auto loan crisis are overblown. When you look more closely at the differences between the two, it immediately becomes apparent that whatever similarities they have are mostly superficial. In this sense, it seems highly unlikely that the supposed subprime auto loan crisis will ever amount to much if anything.

The Problem with Subprime Auto Loans

One of the major driving factors behind the recent focus on subprime auto loans is the recent settlements paid out in New Hampshire and Massachusetts by Santander Bank. After a thorough investigation, both states determined that Santander knowingly bought loans from dealers that it knew were including false and fraudulent information in their loan applications. Santander even specifically referred to some of these car dealerships as ‘fraud dealers’ and yet continued to purchase loans from them.

Although Santander knew before even approving these auto loans that a large percentage of borrowers would be unable to pay back their loan and thus default on it, it still approved the loans. Not only that, but it securitized many of the loans—essentially packaging a large number of these subprime loans together and then selling them off to a third party without warning them about the high risk of default.

Securitization of Subprime Auto Loans vs. Subprime Mortgages

The fact that Santander securitized many of its subprime auto loans is exactly why some people are now fearing a new subprime auto loan crisis. This type of securitization is exactly the same action that subprime mortgage lenders used and which eventually led to the economic crisis. However, statistics show that not all subprime auto lenders are as apparently reckless as Santander.

Whereas almost 100 percent of all mortgages are securitized—subprime or otherwise—less than 20 percent of all subprime auto loans are securitized. This fact should help to ensure that even if a huge number of people end up defaulting on their subprime auto loans, it shouldn’t have wide-ranging financial consequences.

The Impact of Auto Repossession

Another reason to be optimistic as far as it concerns subprime auto loans is where repossession is concerned. When a person defaults on their mortgage and the lender is forced to foreclose on the home, it typically takes months of legal battle before the lender can actually repossess the house. Furthermore, the lender still has to re-sell the house in order to recoup their investment, and often houses have lost a huge percentage of their total value by the time they are finally repossessed.

Compared to foreclosing on and repossessing a home, repossessing a vehicle after a person defaults on their loan is generally much more straightforward. In addition, the auto lender will usually have no problems turning around and reselling the car for full value almost as soon as it’s been repossessed. In this sense, even if a huge percentage of people default on their auto loans, it won’t harm banks nearly as much since it should be much easier for them to recover their initial investment.

All of these facts would seem to indicate that the idea of a subprime auto loan crisis is being blown out of proportion. That being said, if more and more lenders suddenly starting securitizing their subprime auto loans, the chance of so-called subprime auto bubble suddenly becomes greater. Still, the fact that subprime auto loans are also worth far less than the average mortgage should help to mitigate against these loans creating a true financial crisis.

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