The defi Team defi INSIGHT, Originations

The COVID-19 pandemic sent shock waves throughout the world’s economy, and these changes continue to drive the direction in which the auto lending industry is heading. According to a working paper put out in August 2021 by the Federal Reserve Bank of Philadelphia, around 60 percent of adults in the United States have a car loan, and these loans typically represent the most costly durable good in US households. With about $1.52 trillion in outstanding car loans currently, up from $1.3 trillion in 2020, the country’s auto loan sector seems largely to have recovered from the precipitous pandemic downturn.

According to the Quarterly Report on Household Debt and Credit, the third quarter of 2022 saw total US household debt rise by 2.2 percent to $16.51 trillion, an increase of $351 billion. This included a rise in auto loan balances by $22 billion in the same period, an upward trend seen since 2011 when the economy was recovering from the Great Recession. With higher Federal Reserve interest rates dampening last year’s economic outlook, and auto sales, lenders are now looking toward the future cautiously. Given recent fiscal changes driven by the pandemic, it’s now more important than ever for auto lenders to follow auto lending trends to ascertain the best way forward in the current economic climate.

Auto Lending Trends After the COVID-19 Pandemic

The US auto lending sector had grown rapidly over the decade prior to the spread of the novel Coronavirus. Yet according to the Richmond Federal Reserve, the auto lending industry only experienced a slight downturn in 2020, with auto loan balances within the banking industry falling from $487 billion in the first economic quarter to $486 billion in the second. By the third quarter, auto loan balances exceeded those prior to the pandemic. By the fourth quarter of 2021, once vaccines had helped open up the economy further, these balances had reached around 11 percent above pre-pandemic levels.

This is notable, as past recessions saw much weaker auto loan volume recovery, mostly due to government economic stimulation. Now, however, due to inflation and higher interest rates, a similar recovery is unlikely to happen as the US economy slows this time. Yet one of the auto lending trends unlikely to change after the pandemic is the reliance by US consumers on financing, which in recent years accounts for an average of nearly 60 percent of the total vehicle purchase price.

Digitizing & Automating Processes

Another of the auto lending trends driven by the pandemic involves the digitization of the auto lending industry. Nowadays, consumers start searching for vehicles and financing information online before even visiting a dealership. With the widespread use of social media and mobile devices, this is the point at which lenders need to attract borrowers to their products and services.

By enabling automated self-service options from anywhere, lenders bring greater efficiency to their auto lending. Trends towards digitization also allow lenders to process loans faster, more reliably handle documents, and utilize additional means to mitigate risk. This digitization process also makes workflows quicker, allowing lenders to focus their saved time on more pressing tasks.

As auto finance providers continue their digital journey, it’s essential to strengthen partnerships with technology providers who understand the auto industry and offer purpose-built solutions to digitize their lending business. The goal is to streamline processes and create greater speed and flexibility for consumers. The resulting improvements in service are what ultimately increase market share.

Use of Digital Documents

A crucial part of digitizing lending processes involves creating and using electronic documents, such as eContracts. These digital contracts, in conjunction with eSignatures, took off during the pandemic as in-person contact was discouraged. Yet the use of digital documents will be one of the auto lending trends that continue, as it helps mitigate risk, improve transparency and increase efficiency. 

Cybersecurity Trends for Auto Lenders

The vast amounts of information gathered during the application process makes auto lending data particularly useful to cybercriminals. Data breaches due to cyberattacks are a bane to anyone in the financial services sector, as they can significantly harm their customers, which in turn leads to reputational damage to the lender.

The move to remote work by many companies made protecting data even more difficult, as home-based computers tend to have fewer protections, and this wasn’t just a problem for auto lending. Trends showed that businesses throughout the US experienced a 50 percent rise in cyberattacks from 2020 to 2021, including threats from ransomware attacks.

Recent amendments by the Federal Trade Commission to the Safeguards Rule, written under the Gramm-Leach-Bliley Act, puts pressure on lenders to safeguard customer information. To do so, auto lenders must develop and implement security systems and procedures that protect consumer information while also ensuring these protections are constantly upgraded to deal with new threats. This technology used to protect customer data involves more than ensuring confidentiality, however, but also helps auto lenders maintain compliance.

Current US Auto Lending Trends Affecting Car Costs

Initially, inflation in the auto market was due to disruptions in supply chains, as COVID outbreaks limited production by key suppliers, especially for the computer chips required for modern vehicles. 2022 also saw supply chain issues with the war in Ukraine and continued lockdowns in China. Added to this were repeated attempts by the Federal Reserve to curb inflation by raising its key benchmark interest rate.

All these events brought increased prices for new vehicles, which in turn increased demand and prices for used vehicles. While inflation looks to be one of the auto lending trends that seems to be abating, the higher interest rates now being charged have brought about higher loan payments. The recessionary pressures caused by these same rising interest rates look to hamper auto lenders in the coming year further.

Coupling lengthier repayment periods with higher prices means more borrowers will likely go underwater in their loans, leading to more delinquencies and defaults. All these factors are already impacting the auto lending industry. According to TransUnion, which tracks over 81 million auto loans, auto loan payment delinquencies have reached the highest in over a decade. As of the third quarter of 2022, auto loan delinquencies had hit 1.65 percent.

Auto Lending Trends & Challenges Post-COVID

US consumers rely on auto financing, which has accounted for nearly 60 percent of the purchase price in recent years. Additionally, the loan repayment period has increased to an average of 69.3 months for new vehicles and 64.90 months for used vehicles. These will factor into new trends and challenges for the auto lending industry going forward. Looking at auto lending trends and challenges, TransUnion projects the total amount of auto loans will increase in 2023, though recessionary pressures are likely to mean more delinquencies.

These auto lending trends and challenges also show:

  • High interest rates will continue to pressure consumers to stretch out terms to seven years or more.
  • High prices for both new and used vehicles are leading to larger loan amounts with more monthly payments, which puts pressure on the financial health of many consumers, particularly those with subprime or near-prime credit ratings.
  • Inflationary pressures are easing slightly, with the average new car sticker price falling about $500 to $46,526.
  • Low unemployment will likely act as a factor to keep delinquency rates in check.
  • If inflation remains high and unemployment increases, vehicle repossessions will likely increase in 2023.
  • Supply chain issues are easing, with new car production keeping up, which along with higher interest rates, should curb inflationary pressures.
  • The average interest rate for a new-vehicle loan climbed to 5.2% in the third quarter, while the average rate for a used vehicle loan hit 9.7%, according to TransUnion. Both are up more than one percentage point compared with the year-earlier period.
  • Vehicle prices will ease somewhat in 2023 as market forces led by higher interest rates lead to lower credit availability.

While there are reasons to be optimistic about the auto lending industry from 2023 onwards, there are numerous auto lending trends and challenges that lenders should keep an eye on. Key among these are digitizing loan processes, cybersecurity, inflation, and Federal Reserve interest rates. 

If you are looking for a software solution that can handle all of these challenges and more in an ever-changing market, defi SOLUTIONS can help.

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defi SOLUTIONS offers solutions for a lender’s complete loan or lease lifecycle. Partnering with captives, banks, credit unions, and finance companies, defi’s market-leading solution helps lenders exceed borrower expectations. From digital engagement through the complete lending process, defi sets new standards for flexibility, configurability, and scalability in originations, servicing, and managed servicing. defi SOLUTIONS has the backing of Warburg Pincus, Bain Capital Ventures, and Fiserv. For more information on how defi can help lenders deal with current and future auto lending trends, please visit www.defisolutions.com.   

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