Auto loans have been one of the busiest asset classes in the securitization market, but new issuance has been largely dominated by the so-called captive finance companies that lend to consumers buying cars and trucks sold by their parent companies.
Banks, by comparison, have been largely reluctant to securitize the auto loans they make. Cheap deposits are plentiful, so funding these loans isn’t an issue, and auto loans are attractive assets to keep on their balance sheets.
An exception is California Republic Bank, which is still a small player in auto finance but has come to the ABS market twice in the past two years. Its first deal, for $183 million, was in November 2012 and its second, for $238 million was in June of this year.
California Republic has $737 million in assets and operates just four full-service branches in southern California, yet it has big ambitions in auto finance. Its indirect auto finance division, CRB Auto, purchases auto contracts from both franchised and independent automobile dealerships throughout California, Arizona and Texas.
California Republic executives see securitization as an important part of their business model. Selling these assets, including the residual interest in deals, allows the bank to maximize profit and frees up capital for expansion.
They say the lack of prime auto securitization by large banks creates opportunity for smaller institutions.
Management has experience in the securitization market; most senior executives are veterans of the former Western Financial Bank, which was acquired by Wachovia (now part of Wells Fargo) in 2006.
Asset Securitization Report recently spoke with California Republic President John DeCero and Chief Executive Jon Wilcox about the bank’s plans to expand, the quality of execution in the auto ABS market, competition among auto lenders, and the impact of rising interest rates.
ASR: Why does it makes sense for a smaller bank to securitize auto loans when so many large banks are keeping these loans on their books?
John DeCero: The securitization markets are so efficient today.
Here’s the reality: big banks, especially those that have joined up during the recession, have significant deposits [and] they’ve had to raise a lot of equity because of financial crisis. This means they have a significant amount of room to hold paper on their balance sheets, whereas previously they would give it to bondholders in a securitization.
Jon Wilcox: That’s one reason why, quite frankly, we see demand in the market because big banks are holding a large number of loans on their balance sheets. More than they ever have before. It’s also hard for any bank to generate loan growth today, there especially if they are very large. If you’re trying to get a decent percentage loan growth from a large base, you’re going to hold as many [loans] as you can on your own balance sheet.
DeCero: In our case, we have significant capital, relative to our size, but have found a good market [for our auto loans] and an excellent way to fund our growth.
Auto is a great asset class, and Wall Street and bondholders see good value in this paper. It’s relatively short in duration, has performed well in terms of losses and it is very consistent in both good times and bad.
Wilcox: We founded the bank in 2007; it was the largest capitalized bank in the history of California at the time. It was great timing, because we knew there would be many problems, especially for banks that had been lending in an undisciplined manner. On the commercial bank side, we’ve had no loan losses; an achievement that very few banks in the country can match.
ASR: What percentage of California Republic’s consumer lending is auto?
DeCero: Our auto loans are less than 50% of our total loans, which is well in line with normal ratios.
ASR: What drove the decision to securitize?
Wilcox: The securitization market is a very good vehicle to enable us to manage our capital in an efficient manner. We gained significant experience in the securitization markets while working at previous institutions. Most of senior management came from a large securitizer, Western Financial, an organization that securitized in excess of $40 billion, all of which performed as projected, with no shortfalls.
ASR: Has there been any penalty in terms of funding costs for the size or lack of liquidity?
Wilcox: Not really, we are a prime issuer and service extremely well. Our significant experience also definitely helped.
DeCero: We’re getting pretty good execution, even with a smaller deal size. We’re building though, you only have to look at the first deal compared with the second one; they are getting larger.
We secure the majority of our auto loans and maintain all of the servicing in-house. It’s something we feel very good about.
ASR: Is the geographic concentration of loans an issue, as it has been recently in mortgage securitization?
DeCero: It [California Republic’s lending] is [geographically concentrated] in California, but we’re in the middle of an expansion, so it’s becoming less so. The issue is definitely more significant for mortgages than for auto loans. In addition, when there’s a bubble in home prices, usually it happens in one specific geographic area and builds on itself. You don’t really see that in autos, because it’s a national market. There’s pretty consistent pricing across the board. You don’t see cars priced higher in different markets like you do in housing.
Wilcox: Our concentration is California, [which] has an extremely diverse economy. It is the eighth largest market in the world. There is not only significant job growth, but it’s across many diverse industries.
ASR: Is increased lending competition a concern?
DeCero: You always have to be careful [about lending competition]. Some players come into the market and lend indiscriminately, and then end up leaving. You have to stick to your values, and always put credit quality first and foremost in everything you do. Because of the relationships we have, we don’t have to stretch to meet our goals and instead of being undisciplined we will pass on [a loan], but yes, there’s more competition, there’s always competition. The good news is that lenders, after this last downturn, are much more disciplined and careful. We are all hoping that they will stay the course.
Wilcox: The major new entries are mostly subprime and we see much more competition in that segment.
ASR: Will rising rates impact borrowing?
Wilcox: They will probably have a greater impact on mortgages than in the auto finance market.
DeCero: Rates are [still] very low relative to historical averages.
Wilcox: The life of [auto] loans is so much shorter.
ASR: Can you elaborate on California Republic Bank’s growth plans?
DeCero: We’re in the midst of a national expansion, but we can’t speculate about where we will be in a year’s time. At the end of the day, we’re here for the long run and will consistently put credit quality first and foremost as we continue to grow in a profitable manner. Our growth will always be disciplined and purposeful, not growth for growth’s sake, in profitable markets where we have existing relationships.