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SFIG Vegas: The case for extending subprime auto loans

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Since 1991, S&P Global Ratings has only issued two default ratings on subprime auto loan securitizations, Amy Martin a senior director and credit analyst at the agency said Tuesday.

“Knock on wood,” she added.

Martin was referring to a potential third default: the $100 million Honor Automobile Securitization Trust 2016-1 issued by troubled lender Honor Finance.

The deal is cited as an example of what can go wrong when a lender is too forgiving to borrowers with temporary cash flow problems. “Our concern is that it could be a way of hiding losses,” Martin said. She and other S&P analysts pointed out that most other lenders are using extensions much more moderately, however. Many are using them in such a way they may actually improve deal parameters. “It’s an effective loss mitigation tool,” said Rahel Avigbor, an S&P credit analyst.

Since last summer, the $100 million transaction has undergone multiple downgrades of its $8.86 million class C tranche by S&P and Kroll Bond Rating Agency. Kroll has also downgraded the Class B notes, citing the deal’s cumulative net losses that had grown to 27.2% by mid-2018.

The impetus for the losses, both agencies stated, was its generous use of extensions to troubled borrowers, in which more than 22% of the borrowers in the pool were given reprieves on late payments – thus avoiding having to report the loans as defaulted or delinquent to investors.

In a December report, S&P Global Ratings warned that some subprime auto lenders were providing slightly higher rates of extensions to borrowers – a trend that bore watching by ABS investors. These investors “may want to reacquaint themselves with these provisions, as they've evolved over time,” the report stated.

But at the meeting, S&P shared data showing most of the lenders it surveyed reported extension rates between 2%-8% of the loans they service. Martin cited Avid Acceptance, DriveTime Automotive Group and Tidewater Finance Co. as companies with a maximum number of extensions during the life of a borrower's loan.

Extensions are usually granted no earlier than six months after a loan is originated, according to S&P, with no more than one or two a year, and a maximum four to eight extensions over the life of a loan.

Circumstances for extending loans have included allowing borrowers to wait for income tax refunds, or assisting borrowers under emergency circumstances – such as those affected by Hurricanes Harvey, Irma and Maria in 2017 across the Gulf Coast and Puerto Rico.

Martin said that S&P polled issuers on whether contract extensions were granted to federal government workers during the recent government shutdown, but that all reported the number of extensions were “not material.”

Honor Finance's Class C tranche is currently rated CC, just two notches above default status. Kroll has the notes under review for a possible downgrade.

While no paydown has been made on the Class C notes, the Class B notes have been reduced to $9.7 million from the original $14.66 million size, as of Feb. 15. The Class B notes are also in line for priority payments from loan receivables after a $1.4 million reserve account was tapped to pay off the Class A notes, according to a January press release from Kroll.

Honor Finance stopped originating loans last year, and the loans in the 2016-1 pool are now serviced by Westlake Financial Services.

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Subprime lending Auto lending