Not Another: Subprime Crisis

Good morning monkeys

I was wondering if any of the financiers here could shed some light on the issue in this article.


The article I'm referencing below isPE Firms Have No Way Out

PE Firms Funding Non bank Auto Lenders

PE firms have been providing as much as 3 billion in capital to nonbank auto lenders. As you can imagine these are some sketchy shops that offer double-digit interest rates on loans. Of course, the clients are less than creditworthy. As of 9/30 the delinquency rate is closing in on 10%. Even the largest firms like Blackstone and KKR are in on it. I didn’t understand how these firms get a return on investment but the article outlines it like this.

  1. Banks or Private Investors Lend Money to Subprime Finance companies
  2. Subprime companies make a margin between funding costs and interest
  3. What’s not kept on books is “bundled into bonds and sold as asset-backed securities.”
  4. Other loans can go to banks or brokers to raise cash

An example from the article

Take Exeter. The company, which is licensed in all 50 states and works with roughly 10,000 dealerships, was unprofitable from 2011 -- when Blackstone took a majority stake -- through 2015, according to S&P Global Ratings. That’s even as the PE firm invested $472 million to help Exeter expand and cycled through three CEOs at the lender.

So SubPrime auto lenders have been lax in their underwriting standards to make their margins. Offering loans to anyone with a pulse and increasing repayment periods. How else will Joe Schmoe afford his fully loaded Chevy Tahoe?

So, what will the PE firms do with their loan portfolios as defaults and delinquencies rise? Also, I’m not entirely sure I understand how firms go about executing 3 and 4. Can anyone explain?

 
Best Response
Bayoumonkey:

So SubPrime auto lenders have been lax in their underwriting standards to make their margins. Offering loans to anyone with a pulse and increasing repayment periods. How else will Joe Schmoe afford his fully loaded Chevy Tahoe?

Most have not been lax in their underwriting standards. There is always a stream of loanees who can only borrow at a rate greater than prime. This entire process is made easier by securitization of auto loans. Sure delinquencies may be on the rise and there are subprime auto loans floating around in pools that make up some ABS products but lessons were learned last time and ratings agencies are no longer handing out ratings which do not properly fit the risk profile of the product/tranche/security so there is very little need to worry about this becoming a widespread issue.

As for your question about the processes behind #3 and #4, see this link. I'm not sure if Blackstone has a securitization team or if an outside team does this for them but the process is still the same no matter who has to do the work.

 

Thanks for the link. So is this not an issue for the PE firms with these assets in their portfolios? I suppose this article does have an alarmist tone.

“The only thing I know is that I know nothing, and i am no quite sure that i know that.” Socrates
 

If by "these assets" you mean the loan portfolio then no it's a non-issue since the loans only stay on the B/S for (this is a guess but) 1-10 business days before they're packaged and sold off to another firm.

If by "these assets" you mean the entirety of what is Exeter Finance, then I have no idea if it is an issue for Blackrock as I haven't personally looked into anything related to Exeter (though you can be sure Blackrock wouldn't take on unnecessary risk without ample opportunity for a decent ROI).

 

Not an expert on this so others can correct me but I’ve thought about this trend a couple months back so I’ll explain how I understand the situation.

  1. I think OP is misunderstanding the process. Here is how it works: a) banks (e.g. Ally financial), non-bank lenders (e.g. Exeter) and even manufacturers (e.g. Honda) will make auto loans to people buying cars. Ally and Exeter’s of the world might hold that loan on the books and make money on the margin (i.e. interest rate you charge vs. interest you get charged). Other times, they will (and non financial companies like Honda or other manufacturers) will sell off the loans. Usually they will sell by “securitizing” these loans, which is just packaging these loans to get a rating on the whole package and sell as a better credit product (same concept as mortgage backed securities). When they are sold off to investors (i.e. credit hedge funds), they get cash which they use again to lend and on and on. Big banks don’t really make auto loans (I think Ally Financial) has the biggest exposure. But the big banks investment banking arms will be the ones who “securitize” and facilitate the sale to the credit funds (which means the investment banks might have holdings bexauss they bought them off to sell at a higher price not because they originated the loans.

2) As you can see from above, PE firms don’t really play a part (unless say their credit arms end up buying these securities auto loan products, but that’s not the context here). So then the PE exposure is the fact that some of these PE firms own the non-bank lenders such as Exeter who is a player in this auto loan origination market. So if those portfolio companies underperform, PE firms will lose money (i.e. the cash they invested to buyout equity or if they are lenders to these portfolio companies).

3) I think $3bn of PE money going into buying these auto loan origination companies is peanuts compared to the whole market’s exposure to these loans. Think about it. The auto loan market is probably hundreds of billions of dollars. They are held by some banks and credit funds. When hit shits the fan and delinquencies go up, the value of these securitized products will go down to shit. Whoever holds these will lose money or go bankrupt.

4) Now, is this gonna cause the next recession? Maybe not. Altho I do think this is a repeat of the subprime mortgage scheme in that lending is very loose, they get rates as very good credit by virtue of packaging as a securities, the delinquencies are rising, and worse yet, the underlying collateral (i.e. cars lose value very quickly vs. houses which at least has potential to go up in value) is losing value faster than the amortization of these loans, I don’t think it will be a catalyst for a recession like 07-08. Difference is banks exposure and the size of the market exposure. In 07-08 banks got stuck with subprime mortgages...they were the lenders...when they capital was trapped into these, they couldn’t make loans elsewhere (i.e. lend money to companies), it froze the whole market. I don’t think these loans will create such a scenario, given the size differential and bank exposure. But surely, somebody gon get hurt.

4) Look, it’s one of those things like Bitcoin...these auto loans will be part of the world...but things are too lax. Some people see that and others don’t care bc they care about making money short term...so you will see money keep going in until it meets a threshold and correct itself. The only things that are certain in my mind is that even if you see this, it’s really hard to take advantage of it bc you don’t know how to time it/who rly the parties are (I’m speaking as a retail investor).

 

I've seen this shit in a few different platforms. It's fucking pathetic. If you told me this was how I had to make money, I'd move on - no shit. Not only are the borrowers poor quality (what kind of life choices are you making if you finance a dog), but what do you do on default? "Collect" the collateral (the dog)? These are living, breathing, intelligent animals - do you collect them and resell them? Srsly, dafuq.

Maybe I'm just too much of a dog lover.

 

Apparently, that's exactly what he's doing. Oh how high finance has devolved!!

GoldenCinderblock: "I keep spending all my money on exotic fish so my armor sucks. Is it possible to romance multiple females? I got with the blue chick so far but I am also interested in the electronic chick and the face mask chick."
 

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