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Car crash waiting to happen? – a blog by Philip King FCICM

13 July 2017

A couple of weeks ago, The Times highlighted the concerns of the Bank of England that the rapid growth of consumer credit could start to pose a risk to financial stability. The growth of consumer credit reached 10.3% in May compared with a year earlier; this level of growth had not been seen since 2005. The Bank expressed concern that lenders were becoming too complacent about such rapid growth and could struggle to handle the losses if large numbers of customers defaulted on their loans. It believed lenders had become too accustomed to the current benign conditions in the economy and had told High Street banks they would need to hold substantial additional cash reserves to protect against such a threat. The highest areas of growth were in personal and car purchase loans.

Earlier this week, The Financial Times ran a story about the warning signs emerging in the UK car loan market. The amount borrowed by indebted UK households to buy new cars has increased sharply, and there are concerns that they will struggle to cope in the event of a rise in interest rates or a change in their personal circumstances. It can be no coincidence that the Financial Conduct Authority (FCA) launched a review into the motor finance industry recently. The amount of car loans being carried by consumers has doubled to £58bn in the past four years.

About 85% of new car purchases used dealership car finance in 2016, much of that provided by subsidiaries of global car manufacturers. The vast majority of these loans are personal contract purchase (PCP) plans which allow people to acquire a new car for a period in exchange for a deposit and monthly fees, before handing back the vehicle, trading it in for another, or paying off the rest of the loan and keeping it. With so many used cars hitting the market when the contract plans end, there must always be a risk that used car prices will drop. If that drop is larger than expected, the financial modelling of the whole PCP concept is in danger of starting to unravel.

The threat to used car prices set alongside the potential of consumers struggling to repay loans, and reports elsewhere in the media that about 25% of the debt funding in the non-bank market comes from securitisation, doesn’t bode well. Nor does the inevitability of car dealerships and car salesmen, being far less cautious about lending than banks, and bank staff. One national newspaper allegedly sent reporters pretending to be unemployed, or on low incomes, into 22 car dealerships and were offered PCP deals in half of them.

I know the values involved are markedly different, but it was securitised mortgages that led to the 2008 property crash and, with all the other uncertainties currently facing us, this is surely one to watch.

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