Skyrocketing Debt Is Lurking Behind Record-Setting Auto Sales

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U.S. auto sales hit a record high 17.47 million in 2015, and the industry appears to be firing on all cylinders heading into this year’s Detroit Auto Show. General Motors Company (NYSE: GM) is also calling for another record-high 18 million sales in 2016.

However, what the auto industry sees as a boom, others are calling a bubble. A large number of those auto sales have been made on credit, and the amount and quality of that credit has some onlookers thinking back to the subprime housing bubble a decade ago.

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The Numbers Behind The Numbers

There’s no question that sales are on fire, but how are U.S. consumers paying for all these automobiles? The graph below shows the underlying issue that might be a cause for concern. The percentage of vehicles requiring financing has been steadily on the rise in recent years, up to nearly 86% for new vehicles and 56% for used vehicles. 

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After looking at that chart, it should come as no surprise that total U.S. auto debt hit a new all-time high (and a nice round number) of $1 trillion in 2015. While many Americans seem to have learned their lesson from the Financial Crisis when it comes to mortgage debt and credit card debt, auto debt and student loan debt are still headed in the wrong direction.

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Cause For Concern?

If you find these numbers troubling, you’re in good company. U.S. Comptroller of the Currency Thomas Curry addressed the auto loan elephant in the room in a speech last year, saying it “reminds me of what happened in mortgage-backed securities in the run-up to the crisis.” He added, “We will be looking at those institutions that have significant auto-lending operation.”

Richard Cordray, director of the Consumer Financial Protection Bureau, also recently expressed his concern over auto lending practices. “In this market, as in others, subprime borrowers may be more vulnerable to predatory practices, so direct oversight of their lending practices is essential,” Cordray said.

Swarm Of Fees

With rates as high as 20% on so-called “deep subprime” auto loans, it’s no wonder that investors are willing to take on the risk and the high default rates associated with subprime auto loans. Plenty of investors are lined up giving lenders incentive to loosen standards and capitalize on fees, much like mortgage lenders did during the housing bubble.

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The Department of Justice has already subpoenaed Capital One Financial Corp. (NYSE: COF), Ally Financial Inc (NYSE: ALLY) and others regarding subprime auto lending.

Takeaway

The U.S. economy is finally hitting its stride following the worst economic crisis since the Great Depression. With more Americans working and access to financing readily available, there’s nothing stopping Americans from borrowing to get the car of their dreams.

For now, the auto industry and its investors are enjoying the fruits of economic prosperity, but the boom has been built on $1 trillion in debt that should be watched closely.

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By Quizzle. Helping You Make Better Financial Decisions.