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Americans Are Going Deeper Into Debt As Banks Relax Lending Criteria

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Today, Experian Decision Analytics released its report on consumer credit trends in the United States during the second quarter of 2015. The data shows a clear trend: Americans are borrowing more, and banks are relaxing credit criteria once again.

New credit lines issued by banks on credit cards have reached a post-crisis high. Auto loan originations have grown 16% over the last 12 months, and total auto balances have crossed the symbolic $1 trillion mark. Mortgage originations are up 50% since the trough of Q1 2014, and home equity originations are up more than 60% since 2014.  Growth is coming from familiar products, familiar FICO score and familiar states. Not surprisingly, states like Florida and California are leading the growth of home equity withdrawal, and near-prime is once again popular marketing territory.

Banks and credit unions are increasingly willing to offer credit to riskier borrowers. Credit card issuance to near-prime customers is up 7%. Non-prime auto loans are growing by more than 15%. After the credit crisis of 2008, banks had tightened credit significantly. Over the last 12 months, banks have started to grow aggressively in the near prime sector (borrowers with credit score of 601 – 660). In the last credit crisis, some of the worst credit loss performance came from near-prime borrowers. A huge bet is being made on consumers having “learned lessons,” from the previous crisis. Banks are willing to lend on the presumption that borrowers are more responsible now.

At the moment, delinquency and losses still look low and stable. But delinquency and losses should look good at this point in the credit cycle, because losses lag loan growth. Default performance today comes from the loans and credit limits that were issued in the past. As banks continue to offer credit to higher risk borrowers, it will take a few years before the true impact of the increased risk tolerance will be known. One thing is certain: delinquency and losses will definitely increase over time from current levels.

A lot has been written about the growth of marketplace lenders. Although marketplace lenders have been making a lot of noise, traditional banks continue to grow rapidly. And credit unions have quietly been growing their assets at an astonishing rate. In some respects, the credit unions are the opposite of marketplace lenders. They are light on technology and data. Yet they are rapidly increasing their exposure to the sub-prime auto sector. Many large banks have shrunk, because they are unable to compete on price.

Below are some of the key highlights from each segment.

Credit Cards

The data from Experian tracks credit cards issued by banks, and shows the dramatic and rapid growth experience during the second quarter.

  • $83 billion of new bankcard credit lines were issued, a post-crisis high.
  • 87% of the new credit lines were granted to prime and super-prime customers. But the accelerated growth is coming from near-prime.
  • There was a 7% growth in credit limits issued to customers with near-prime scores. A total of $8.2 billion was issued during the quarter.
  • Credit card balance growth is starting to accelerate. Balance growth always lags limit growth, but there was a 3% growth rate in balance during the quarter and looks set to accelerate.
  • Credit card losses remain around 4%, and delinquencies remain at low levels.

Auto Loans

Auto loan growth continues at a rapid pace, and a lot of the lending is happening with lower risk borrowers from nonbank lenders and credit unions.

  • $160 billion of new loans were granted in the quarter, a 16% increase over the prior quarter.
  • $577 billion of loans have been issued in the last 12 months, up 10% compared to the previous rolling 12 months.
  • Subprime auto loans expanded 14.8%.
  • Near-prime volume is also up 15.3%.
  • 56% of all auto loan originations are from non-prime consumers.
  • Credit unions are now responsible for 25% of all originations, and finance companies are responsible for 18%. Traditional banks are losing market share to finance companies and credit unions.
  • At credit unions, 34% of originations are to borrowers with credit scores that make them either near-prime or sub-prime. This raises concerns about the amount of risk that credit unions are taking in a high risk segment of the market.
  • Auto loans have crossed the $1 trillion balance mark, an increase of more than 10% compared to last year. Since 2012, auto loans have increased a staggering 43%.

Mortgage Loans

Since Q1 2014, mortgage volume has started to accelerate rapidly. Fear of an interest rate increase has inspired a lot of refinance activity now, while rates are low. And the purchase market continues to heat up, as more people decide to purchase homes.

  • Mortgage originations have increased 50% since the trough of Q1 2014.
  • Nearly $1 trillion of new mortgages have been originated so far this year.
  • Purchase mortgages are now at 57% of total mortgage volume.
  • California, Texas and Florida continue to dominate the market.
  • The fastest growth in coming from Hawaii, South Dakota and Washington.

In addition to first mortgages, the Home Equity Line of Credit (HELOC) business is accelerating. $42 billion of HELOC were originated during the quarter, an increase of 23.5%. Equity withdrawal continues to remain most popular in states like California and Florida.

Implications

Anyone who has been in banking for a long time understands that credit is cyclical. Right now, we are clearly in an expansionary phase of the credit cycle. Borrowers who were once toxic look good again. Top line growth is accelerating. Coincidental delinquency and losses look good. And we all convince ourselves that we have learned out lessons from the past cycle.

One thing is clear: at some point delinquency and losses will increase. The quality of the underwriting today will determine the extent of the deterioration in the future. Credit card businesses should be least at risk, because of their high interest rates and ability to mange the credit limits. Subprime auto loans underwritten by credit unions, with limited experience and low interest rates, pose a much greater risk. But only time, and more data, will reveal the wisdom of decisions made by both banks and borrowers.