The sub-prime auto loan market has captured a lot of attention in recent months from investors who believe it may be the next big bubble to burst.
While it is unclear if that will happen, another sign of potential trouble in the auto loan market has appeared.
Reuters reported on Thursday that payment terms are getting longer:
The average length of a loan on new vehicles was 67 months and for used vehicles, 63 months, remaining steady for the fourth quarter of 2014, [global information services group] Experian reported.
Longer-term financing of more than 73 months grew by 12 per cent from a year earlier, to make up 29 per cent of new-vehicle financing.
Loan terms longer than five years are growing rapidly, and consumers may not recognise what they mean. While longer payment periods make for smaller monthly payments, they also mean consumers must keep the car longer or face negative equity if they choose to sell or trade sooner.
In other words, the car’s value may depreciate well below the value of the outstanding value of the loan, and selling the car would not be enough to cover payments still owed.
While many investors have disregarded the concern over sub-prime auto loans, this continuing trend in loan terms is something to carefully watch. It could mean that a lot of new cars are being purchased with an eye on the monthly budget, rather than an awareness of how much money is ultimately being borrowed.
A lower monthly payment on a longer-term loan could indicate that consumers who need a new car are stretching, and making up for it by adding another couple of years in payments.