Amid the economic recovery from the COVID-19 pandemic and the reopening of the US economy, consumer-related debt has taken a surprising turn, generating better-than-expected credit performance. But market watchers say the conditions that made better consumer credit possible, especially consumer installment loans, are unlikely to recur in the next economic downturn.
While consumers benefited from major programs like student loan and mortgage forgiveness programs, they took advantage of the windfall to pay off debts and accumulate savings.
“Unprecedented levels of federal relief, such as improved unemployment benefits, direct stimulus payments, and sweeping abstention programs, have supported credit performance in consumer loan markets during the pandemic,” Bank of America Global Research Team ABS strategist Elana Lipchak said in a statement. email response.
Asset-backed trusts continue to see the benefits of how consumers have allocated their stimulus and relief payments. According to Bank of America Securities, consumer loan ABSs, like other consumer-focused debt, have performed better than expected credit scores, even in recent months.
Part of that performance is due to the lending segment of the market, which has accounted for just over a third, 33%, of total consumer loan ABS volume since the start of the year, according to BofA.
The net loss rate of market loan ABS was 4.4% in May 2021, slightly above its low point of 4.3% in October 2020, according to the most recent data available.
In the year before the pandemic, the range of net losses was 6.0% to 8.5%, and was still lower than the 12% it reached in 2016 and 2017. This was in part due to some market dynamics that had deprived the ABS loan pipeline market of new business to begin with. A difficult economic environment in 2020 reduced the demand for loans. In addition, market lenders have diversified their sources of financing, acquiring banks or issuing transmission securities. With respect to the latter, the sponsors of structured finance loan agreements in the market have issued approximately $ 7.6 billion in transmission certificates.
With all the support, the sharp increases in unemployment rates have not translated into an increase in defaults, unlike previous recessions. Granted, the unemployment rate hit 14.7% in April 2020, a shocking increase from 3.5% in February 2020, according to data from the Bureau of Labor Statistics.
Economic indicators have improved considerably over the past year. The unemployment rate fell to 5.9%, while observers expected it to drop to 5.6%. The change coincided with the economy adding 850,000 jobs to the payroll in June, beating the estimate of a 720,000 payroll gain.
The state of the economy now looks bright, but Bank of America’s concern is the next recession, Lipchak said.
“The government cannot take such extraordinary measures,” she said. If that happens, Lipchak added, the bank expects the normal relationship between rising unemployment and rising delinquencies and defaults to take shape.
When it comes to an asset securitization collateral pool, personal installment loans generally rank at the bottom of the payment hierarchy after auto loans, mortgages and rents, and credit cards.
“This should lead to weaker credit performance,” Lipchak said. The short-term picture looks more positive. “The improving employment situation, the continued benefits of stimulus and savings, and stricter underwriting standards are expected to be favorable through the end of 2021.”
What is a real lender?
Recently, President Joseph Biden signed a resolution repealing an Office of the Comptroller of the Currency regulation that determined when a national bank or federal savings association made a loan and was identified as the so-called true lender.
The rule, adopted just last October, stipulated that a bank is a true lender of a loan when it is named as the lender in the loan agreement and finances the loan, at the time of origination. Also, if at the time of origination, a bank is named as the lender in the loan agreement and another bank funds the loan, the bank named as the lender in the agreement finances the loan, Lipchak said.
As such, as a true lender, the bank will retain the compliance obligations associated with the financing.
But President Biden’s permission to repeal introduces uncertainty into the asset class, in a way that would increase legal uncertainty, discourage partnerships and dampen the innovations that emerge from those partnerships, Lipchak said.