Hacker News Reader

There are some differences too, though.

- There is no expectation that a car should increase in value over time (except for collectibles), whereas there was and still is an expectation that houses should increase in value over time.

- Because of that, there is no such thing as interest-only, negative-amortization, or option ARM car loans. Those products were the worst-performing mortgage loans from the financial crisis.

- For a lot of Americans the biggest component of their net worth is the equity in their house, so a house price crash wiped out most of their net worth. Most Americans have little to no equity in their cars, so a car price crash would help more Americans that it hurt.

Will a lot of these loans default if there's an economic downturn? Of course, but as long as there isn't a "repo man moratorium", investors will still recover most of their principal.

Now, if Goldman Sachs is selling derivatives on these car loans, that's a whole different story.

This is not about the asset class, it's about the business model of selling X, packaging loans for X, and the reselling the loans for securitization.

X can be anything. When the income stream for the financial product becomes large in comparison to the income stream for underlying purchase, it doesn't bode well.

Enron (energy), GE (rails, aerospace, industrial), cars (GM/GMAC), homes (Countrywide, IndyMac), home loans (Lehmans Bros, Bear Stearns, AIG and others that repackaged the loans in addition to CDO and other derivative instruments), ad nauseum. The pattern is there. When you get out of the business of selling widgets to people and getting into the business of selling widget loans that you are originating to investors, that inextricably changes the type of company you are. You are going to optimize for the inevitably higher ROE business line of securitization, and you are going to eventually make bad widget selling decisions to prioritize widget loan sales.

I have commented more than enough, so just going to tack this on, but people may forget that loan ownership and "zombie debt" was a big problem in 2008. It is not a great sign that Carvana was banned from selling cars in a mid-market due to title delivery issues: https://www.cbs17.com/news/local-news/wake-county-news/ncdmv...

Banned from selling cars at one of their locations. That seems like the rough equivalent of one fast food franchise location getting shut down by the health department.

> not a great sign that Carvana was banned from selling cars in a mid-market due to title delivery issues

My girlfriend bought from Shift. They didn't get anything to the DOL for nearly 4 months from purchase.

At one point, with expiry of temporary tags, Shift put her in a rental car for _a month_ while they "dealt with it".

Apparently not uncommon.

IDK how much principal can be recovered. For used cars, depreciation is slower, but most cars purchased with financing are upside down immediately. You would recover a fraction of the principal after paying the repo man and then reselling the car at a wholesale auction.

Is this the case for used cars? What is a typical down payment for Carvana? Also, I assume they wouldn’t have to sell the vehicles at auction, since they could use their own platform.

Someone I knew in the used car business told me that the bottom-feeder used car lots would take a down payment that was more than what they paid for the car, wait for the borrower to get behind, repo it themselves, and repeat the cycle. No middlemen needed.

I've been in the auto lending business - I would like to point out that the scenario you described is for the REALLY BAD bottom feeding lots.

The financiers I worked with was MANDATED to send repoed cars to auction houses. I'm not sure how someone would get an exemption from that.

Price crash wouldn't help, it would hurt as many people overleverage to purchase a car - and that asset, while on a financial point of view DOES depreciate, many people are very well unaware at what rate, and most likely traded in an underwater loan, to get another car (negative equity) and are more and more overleveged.

With the past year, most cars appreciated in value on paper, only because of supply and demand and money inflation - that's it.

There is also very much a housing crisis and a huge population that do not have a house, and need to juggle the rent payment, the car payment, the insurance payment and well it seems unsustainable.

tl;dr you assume that the price of the asset is the same when repo'd, that is not true, very much the asset itself can be worthless if there's default across because it means there's no demand or need for cars.

> There is no expectation that a car should increase in value over time (except for collectibles)

Except for the last 18 months.

My brother in law drove a new trick across the country for eight months, pulling an RV, then sold it for $5k more than he paid for it. To a dealer, who planned to raise the price and resell it.

You’d be foolish to factor this into any business model however.

For sure, it was a joke.

Yep, about 2 years ago mine was worth $8k. I just traded it in for $16k.

This comment is spot on.

Also, there were "NINJA" mortgages before the 08 recession (No Income No Job/Assets).

Car debt is a very different thing than real estate debt.

No one is expecting cars to hold or appreciate value, even if some have in the past year.

And no one buying used car debt has any delusions about the potential rate of defaults. Not to mention that default recovery is much cheaper and easier than mortgage foreclosures.

I am sure they are tranching the debt and selling the senior tranche as investment grade.

Can someone explain why this is bad practice?

If I loan someone $100 with 10% interest, and immediately sell the loan to someone else for $102, why should I care about anything other than $2 profit?

The seller works out great until the buyers decide they no longer want the product. In the housing crisis this was because the sellers of the security had them rated far higher than they should have been. Will these be rated properly? Very hard to m know.

But the seller ends up I trouble if they can’t sell the security because they are relying on the cash flow to finance the rest of the business.

It all works fine as long as the pipeline flows.

Regardless of the rating, the risk is entirety different, since vehicles almost always depreciate, and do so faster than the debt is paid off, whereas people expect real estate to appreciate long term.

Even a highly rated vehicle note is still based on the fact that the asset will fully depreciate somewhat in line with the outstanding debt.

Faster than usual depreciation would still ruin some loans.

We're talking packaging the loans into a bundle, so it'd need to be faster than usual depreciation across the market, for some unforseen (aka not priced-in) reason. Otherwise it'd average out.

Your question is the answer. The incentive is to get your $2, and you don’t care about the $100.

So the business process has an incentive to just write loans, period. It sounds like in this cases there is a compromised relationship with the lender as well.

Skin in the game, forces you to consider the quality of the loan. In theory.

why should I care about anything other than $2 profit?

That's the point, right? Securitization serves individual short-term interest, at the cost of stability of the system. We saw that in 2008, and even then the politically connected players made out like bandits.

> this should be a huge red flag to anyone with any sense of history.

It's a small red flag and not at all concerning as a macro risk. In the scale of the US economy and US household finances (including disposable income vs debt service payments), Carvana & pals could hardly be more meaningless. Overall the subprime car loan industry is a modest rounding error sized problem (ie it can't cause even a small fraction of the damage the housing implosion did, that you're referring to re sense of history). For the auto industry subprime is around 7% of new vehicles and a quarter of used vehicles (both figures have decreased over the past year as the employment picture has improved). In a very bad outcome scenario, only a minority share of those subprime loans will go bad. The subprime sector risk is, realistically, measured in the tens of billions of dollars, not trillions (as the housing market risk was). Tens of billions of dollars is as close to meaningless as non-trivial things get against $137 trillion in US household assets and the US income figures.

People get overly paranoid up as a matter of routine, looking for the next financial crisis. Every year there are typically a few items that the financial media will run headlines with in terms of clickbait doom, blaring about how x y z is the next impending financial crisis doom-cause agent. Subprime auto loans are not a big threat to the US economy.

If you want to be worried about something, there are only two primary financial categories domestically to pay serious attention to: housing and the stock market. Nothing else much matters by comparison, those are the two giants, by a very dramatic margin (subprime auto loans, student loans and credit card debt are each trivial compared to housing & stocks, in terms of risk to the US economy).

>I don't know auto loan based securities (size, participants) but this should be a huge red flag to anyone with any sense of history.

I agree but there are far less pesky regulations surrounding the repo and sales of cars than of houses so that does a lot to cap the downside. You also can't generally be in debt for a few times your annual gross income on a car.

Yes but the federal government will go to the mat for any of the Big Three automakers while everybody knows REITs can go dangle.

I don't understand your point. The big three (do you still count Chrysler/Stellantis?) make things and produce jobs. Carvana is not a REIT and is substantially a financial services company per this article.

They are a logistics company, not a financial company. I have no affiliation with Carvana but I am familiar with the market they operate in.

well, by definition the Big Three are 3 large car companies that employ thousands. a particular REIT employs far less and has far less impact on the market. I guess the lesson is, for govt to bail you out, get too big to fail. but we already knew that.

While other auto lenders also sell loans to investors, they typically keep the debt on their books, recording gains and losses over time.

How do you sell a loan but keep it on your books? That makes no sense.

I thought 5% vertical slice retention was a Dodd-Frank requirement for originators in ABS (I’m not an Auto guy though, maybe that’s not true in this sector)

2008’s issue was leverage and redundant ownership

(A bank that originated the loan and sold a CDO may have bought essentially an ETF of CDOs which contained its own original loan. When the individual stopped paying, nobody know who was on the hook for the car property or who to ask about)

Having better lending standards, ownership data and less leverage allows this to flourish to much greater heights

Yikes!! What are they going to do when the shortage ends? They'll have a bunch of loans with little collateral.