The U.S. unemployment rate, which fluctuated between 3.7% and 3.9% since January, could be in for further increases as auto sales decline, in a recent SMBC Nikko Securities America study that observed relationships between the two. Further, as consumers run late on repaying auto loans, a lot of auto ABS will underperform.
Historically, auto sales have been highly sensitive to labor market changes, but sometimes auto sales have led upturns and downturns in unemployment numbers. This happened just before the 2008 financial crisis and the bursting of the housing bubble, and in the late 1970s and early 1980s when massive inflation outstripped wages, says Troy Ludtka, senior U.S. economist at SMBC Nikko Securities Americas.
Now auto sales are falling, while unemployment is rising. According to the Bureau of Economic Analysis, auto sales reached 15.97 million units in March 2024, down from 16.20 million units in February 2024 and 16.61 million in June 2023. According to the Bureau of Labour Statistics, U.S. unemployment rose to 3.9% in April 2024, the highest since January 2022, and 50 basis points higher than the 3.4% seen in April 2023.
Historic correlations suggest unemployment could rise further, Ludtka said. The disparity between auto sales and unemployment rates is greater than it has been since 1972, Ludtka said.
"That gap needs to close in some way. Either auto sales could suddenly rise, which is unlikely, or the unemployment rate could increase. If history is any guide, given the current level of auto sales, we should be facing a 4.3% unemployment rate."
ABS maintains momentum
Observers wonder what impact those factors could have on the auto ABS sector's momentum this year. For 2024, auto ABS issuance has been strong, with $50.5 billion in new securitizations year-to-date 2024 compared with $46.2 billion YTD 2023, according to ASR's database.
The sector could also get a boost in production from credit unions, said Nick Monzillo, vice president, consumer ABS structured finance team at Moody's Ratings. Instead of funding auto loans through member deposits, as they did historically, credit unions have been using securitizations to improve their liquidity profile and diversify funding options.
According to a May 9, 2024 Kroll Bond Rating Agency report, credit unions issued $2 billion worth of ABS in seven transactions in 2023. KBRA expects credit unions to remain active in the ABS primary market in 2024.
"There was a big increase in vehicle sales volumes in 2023 compared to 2022, and we've seen that float through to ABS issuance volumes," Monzillo said.
There are several reasons why auto sales have been accurate predictors of U.S. unemployment rates, Ludtka said.
"Car purchases are highly cyclical events," Ludtka said. "When people and businesses grow anxious about the economic climate, they postpone big-ticket purchases. This has a knock-on effect on the auto trade and helps precipitate a downturn."
Also, late in an economic cycle, inflation can exceed income growth, which leads to consumers becoming more price-sensitive and putting off big-ticket purchases, Ludtka said. Fitch Ratings is forecasting a modest 4.1% unemployment rate for year-end 2024..
According to the Bureau of Labor Statistics, after allowing for the rise in the Consumer Price Index, seasonally-adjusted real average hourly earnings for all employees decreased 0.2% from March to April 2024.
Asset delinquency expectations
As unemployment escalates, auto loan delinquencies will follow, reflecting consumer financial stress, Ludtka said.
"Auto loan delinquencies are rising quickly and will likely continue to rise," said Ludtka. "People are running late on their bills, and this shows they are financially stressed."
In the fourth quarter of 2023, auto loan delinquencies were at their highest levels since 2011, Ludtka said, while Fitch says its outlook for auto loan ABS asset performance in 2024 is deteriorating relative to 2023.
"The unemployment rate remains a driving factor for future auto loan ABS frequency performance trends," said Margaret Rowe, a senior director at Fitch. "It could strongly affect both consumer confidence and income levels, impacting borrowers' ability to service their debt."
According to an April 23, 2024 Moody's report, auto loan and credit card asset quality at the largest U.S. retail banks weakened again in Q1 2024, with delinquencies and charge-offs well above 2019 pre-pandemic levels, even with the unemployment rate near 2019 levels.
An accurate post-COVID indicator?
Gabriel Agostini, an assistant vice president and economist on Moody's global macro research team, doesn't think historic correlations with auto sales figures are accurate predictors of job market performance in a post-COVID world. The Covid-related shocks on the U.S. and global economy were too unique, he said. Agostini, however, still expects unemployment to grow to 4.25% by the end of 2024, very close to Ludtka's 4.3% forecast.
Increases in unemployment rates could lead to more weaking in auto loan performance, said Monsillo from Moody's.
"Loan performance has degraded somewhat compared to the pre-Covid era. The more it worsens, the more bond spreads increase, and the less attractive they become for ABS issuers."
