Car prices still falling but the sky isn’t as lender profits up

Auto lenders that sounded alarm bells about slumping car values are seeing less of a price drop than feared. Proof of the reprieve – however short-lived – is showing up in their profits.

Ally Financial Inc., the bank that gets most of its revenue from auto loans, saw record adjusted earnings in the second quarter. General Motors Co.’s finance arm reported all-time high pretax profit in the period, and Ford Credit’s was its best since 2011.

This is not the tune auto lenders were singing at the beginning of the year, when a surge of vehicles with expiring leases was sinking used-car prices and roiling earnings. The weak underlying market dynamics are still there – more than 3 million vehicles will hit the used-car market this year, a third more than in 2016, according to J.D. Power. But with used-car values holding up better than expected, banks and captive finance companies avoided taking the hit from vehicles being sold at depressed prices.

“Supply is no longer the same kind of threat that it looked like it might be at the end of last year,” said Jonathan Smoke, chief economist for Cox Automotive. “Dealers are able to buy these at auction at higher prices because the consumer is stepping up and wanting to buy those vehicles.”

The grim outlook for auto lenders at the beginning of the year stemmed from used-car prices looking poised to collapse. When customers lease a vehicle, the lender charges a monthly payment and makes an assumption of the car or truck’s value when it will be returned. If vehicles are depreciating more than anticipated, losses can pile up.

The used-car glut has spurred tighter underwriting standards by some lenders wanting to limit their exposure to risky loans. Stricter standards have led to some lower-credit buyers making the switch to the used-car market rather than buying a new vehicle. The shift in demand has helped keep used prices from free falling.

“From a macro perspective, the consumer is still in good shape,” Jeffrey Brown, Ally’s chief executive officer, said in a phone interview. “Confidence is high, debt loads are manageable, employment is still strong right now.”

Ally, which substantially cut its full-year profit forecast in March because of used-car values, said prices only fell about 5 percent in the second quarter, compared with a 7 percent drop in the first three months of the year.

Ford Chief Financial Officer Bob Shanks said lease residuals – a measure of how much used cars are worth after a lease or period of ownership – were flat in the second quarter.

“I think that’s a victory,” Shanks said on a July 26 earnings call. “That’s been one of the biggest headwinds of the business now for quite a number of quarters, but as it has been written about by many of you and others in the media, we are seeing less of a downward draft on auction values than what we had expected.”

The retreat of some big banks like Wells Fargo & Co. from car loans also helped other auto-finance companies’ second-quarter results. Wells Fargo, the country’s largest auto lender, said auto originations fell 45 percent to $4.54 billion from a year earlier, the lowest in at least three years.