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The Risks of a Car Loan

O Lord, won’t you buy me a Mercedes Benz?

No one helped Janice Joplin buy her luxury car. However if Janice were alive today she could get the car of her choosing through cheap credit. So much so that some folks are wondering if auto loans are the next bubble in waiting.

The chart below shows the growth of U.S. auto loan debt. The T stands for trillion!

US Auto Loan Debt Chart

US Auto Loan Debt data by YCharts

In other words, auto debt has increased by 215% since Q2 of 2002. In addition, thirty day delinquencies are on the rise.

US Auto Loan Debt Chart

US Auto Loan Debt data by YCharts

According to a Detroit Free Press article, dated September 6th of this year, nearly 1 out of every 4 auto loans is subprime.

In a follow up article, dated September 30th, Greg Gardner reported that these loans are being packaged and sold to investors like the subprime mortgage market a decade ago.

Not only does this have a financial impact, it may have an impact on your next car purchase. If the used car market is flooded with repossessed subprime automobiles, your trade in value will be depressed from an oversupply.

The key takeaway is this. Subsidies always distort markets.

You can see this in various markets such as the ethanol subsidy and corn. Since the credit crisis, the Federal Reserve has subsidizes interest rates.

I agree with James Grant in a Wall Street Article, dated September 9th, 2016, when he stated,

“Interest rates are prices. They impart information. They tell a business person whether or not to undertake a certain capital investment. They measure financial risk. They translate the value of future cash flows into present-day dollars. Manipulate those prices—as central banks the world over compulsively do—and you distort information, therefore perception and judgment.”

In our low to no interest rate world, the concept of risks has been largely ignored. I hope the price of remembering is not too painful.