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Bundled US Car Loan Deals Enjoy Comeback

Stephen Foley and Vivianne Rodrigues, Financial Times

It made Howard Longaker’s heart sink every time: here comes another clunker. When potential buyers rattled on to the lot at Len Stoler Chevrolet in Westminster, Maryland, more often than not they had clung to their old vehicles practically until the engine dropped out – but not now. Now things are perking up, and the reason can be traced to booming demand for asset-backed securities on Wall Street.

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Mr Longaker, general sales manager at the dealership, says cheap financing is luring drivers to trade in their models more regularly, and even buyers with poor credit histories finally have access to loans again.

“There’s no shortage of people who have suffered heartbreak over money over the last few years,” he says. “Until four or five months ago, they had no chance of financing. Now they do. And as for the best borrowers, they can now get rates as low as 2 percent.

“The banks are doing their job, helping us sell some product; it’s just up to us to get customers off the couch and into the dealerships.”

With investors starved of higher-yielding assets in an era of central bank intervention that has driven interest rates to historic lows, securities created from pools of car loans are being gobbled up faster than lenders can sell them, freeing them to make more loans to more people at lower and lower rates. On the evidence of recent days, and despite the growing skepticism of some investors who were early in to this market, there is no slowdown in demand yet.

In fact, investors are increasingly clamouring for the higher-risk portions of car ABS and other asset-backed securities, suggesting scope for looser underwriting standards still. For subprime borrowers, the options are increasing.

When GM Financial, the subprime lending arm of General Motors , maker of the Chevrolet, sold $1.3 billion of ABS last week, it was the lower-rated tranche of the offering that was most heavily subscribed, by seven times compared to 2.5 times for the AAA-rated tranche.

Meanwhile, a prime car ABS deal by Ally Financial on Tuesday was so heavily in demand that bankers increased its size by two-thirds to $1.265 billion. A $2.1 billion “floorplan” ABS, backed by lines of credit to car dealers, was being sold by Ford on Wednesday.

Demand for the securities in the secondary market has also been strong. The Barclays ABS (auto) index shows spreads tightening to 0.48 basis points over similar swaps, compared to 0.92 a year ago, and other ABS asset classes have shown similar tightening as buyers piled in. Securities backed by credit card balances have tightened from 0.77 basis points to 0.41. Student loans and more esoteric receivables such as time shares and music royalties, are also in demand.

Some buyers of prime ABS believe that the rally in these assets may be drawing to a close. David Goodson, senior portfolio manager for structured finance at ING Investment Management, says he had cut his fund’s exposure in recent weeks.

“I don’t expect the asset class to keep providing a major source of outperformance from here,” Mr Goodson says. “But if your view is that there are still a lot of potential macro risks out there, prime ABS is still a very good source of protection. We are believers in the fundamentals. While the rally has made some of these securities a tad too rich, I would still take the opportunity to buy more of them at better prices.”

Defaults on car loans stayed low despite the credit crisis and recession, and analysts at Kroll, the bond rating firm, say that improvements in the second-hand car market have helped boost the value of the collateral for car loans, further underpinning investor sentiment.

“For the most part we have seen a reversion back to the kinds of underwriting standards we saw five years ago, before the crisis, and for that we are not unduly concerned,” says Glenn Costello, senior managing director at Kroll.

US car sales last month recorded their best August in five years, coming in at an annualized rate of 14.5 million, outpacing researcher’s 2012 forecast of 14.4 million. Jeremy Anwyl, chief executive, predicted further improvement in financing conditions thanks to the booming demand for ABS.

“This is the end of the beginning, but it is not the beginning of the end. For investors, interest rates are pretty high, the risk is fairly low. That seems like a pretty good deal to me.”