For months we've warned that declining used car prices could spell disaster for subprime auto securitizations (see "Slumping Used Car Prices Spell Disaster For Subprime Auto Securitizations"). While it's always difficult to predict the exact timing of when bubbles will burst, a combination of record-high lease returns in 2017 and 2018, combined with rising interest rates could imply that the auto bubble is on the precipice. As Bloomberg recently pointed out, strong used car pricing is a critical component required to prop up the overall auto market. While American's love their brand new cars, if used car prices become too soft then substitution can hurt new car sales. Add to that the impact of falling residual values on the finance arms of the auto OEMs and you have all the ingredients required for an auto market meltdown.
A glut of used vehicles has started to depress prices. That trend will intensify as Americans will return 3.36 million leased cars and trucks this year, another jump after a 33 percent surge in 2016, according to J.D. Power. The fallout has already begun, with Ford Motor Co. shaving $300 million from its financial- services arm’s profit forecast for this year.
“Ford is the canary in the coal mine,” said Maryann Keller, a former Wall Street analyst who’s now an auto industry consultant in Stamford, Connecticut.
This drag may be hitting the rest of the industry, too. A National Automobile Dealers Association index of used-vehicle prices declined each of the last six months of last year. If used values weaken more than anticipated, it can lead to losses across the industry, hitting carmakers, auto lenders and rental companies.
Unfortunately, the volume of lease returns is only expected to grow even more in 2018 with returns expected to approach 4mm units.