Fitch Explores Relationship between Wholesale Values and ABS Loss Rates
NEW YORK — Along with reporting the latest trends in auto asset-backed securities, Fitch Ratings recently delved into the correlations that can be found between wholesale values and ABS loss rates.
While the decision as to when a loan has become too delinquent and the time to recover assets can vary, there is a close relationship between recovery rates at auction and the performance of auto ABS.
With the economy in a relatively weak state, auto loan delinquencies have risen, along with repossessions, and thus the state of wholesale prices in the auction environment tends to have an impact on bottom line results and ABS issuance.
In a recent report, Fitch explained its "analysis demonstrates the indirect, inverse relationship between wholesale vehicle values and ANL rates in auto ABS — as wholesale vehicle values rise, ANL (annualized net loss) rates invariably fall and vice versa.
"Therefore, the healthier the wholesale vehicle market, the lower loss severity in auto ABS as vehicle recovery rates increase and, hence, loss levels ultimately decrease," officials said.
Fitch pointed to several findings from its analysis. First off, the company wrote, "There is a high degree of correlation between the wholesale vehicle market and the prime and subprime ANL indices."
In fact, the ratings company said it "observed that at a 95 percent confidence level, a 1 point increase in the Manheim Index would result in a 6.3 plus/minus 1.3 basis-point decrease in the prime ANL index and a 29.4 plus/minus 7.2 basis-point decline in the subprime ANL index."
Basically, executives said the prime ABS ANL index tends to display a higher correlation to the Manheim Wholesale Index than the subprime ABS ANL index at correlations of 79.2 percent and 68 percent, respectively.
Fitch said it utilized data from its prime and subprime ANL indices and Manheim data from January 2003 to March 2008 for its findings. The Fitch report was posted in May.
"Despite many variables affecting the loss rates in securitizations (e.g., loan term, LTV ratios, timing of defaults, servicer proficiency and type/condition of vehicle), a simple regression analysis proved a relatively high predictability of the ANL index movement relative to the changes observed in Manheim Index (adjusted R-Square of 62 percent for prime ABS ANL index and 45.3 percent for subprime auto ABS ANL index," the company reported.
Citing its correlation, officials said, "For example, the relationship between the wholesale vehicle market and the prime and subprime ANL indices was clearly evident during 2003 when the Manheim Index hit a historical low of 102.4 in April. Around the same time, the prime auto ABS ANL index moved up to a historical high ANL rate of 1.70 percent.
"Similarly, the subprime auto ABS ANL index reached 9.80 percent within the same period, also one of the highest range of losses recorded by the index," officials highlighted. "On the other side of the spectrum, during the first and second quarters of 2006, the Manheim Index ranges from 112.9 to 116.3, one of the strongest periods experienced by the index and, thus, the used-vehicle market."
During this vibrant marketplace, the corresponding loss rates of Fitch's indices ranged from 0.52 percent to 1.07 percent on the prime side and 3.27 percent to 6.98 percent on the subprime side, which were some of the lowest losses ever recorded.
"Furthermore, Fitch examined the data for potential lagging effects by regressing one- and two-month lagged Fitch ANL indices versus a non-lagged Manheim Index," the company wrote. "The study showed that there was a ‘de minimus' lagging effect, as evidenced by insignificant movements in regression outputs between non-lagged and one-month lagged data."
Further explaining, Fitch said, "For instance, correlation dropped from 79.2 percent to 78.9 percent and the adjusted R-Square declined from 62 percent to 61.8 percent for the prime auto ABS ANL index. Two-month lagged data analysis showed both lower correlation and lower adjusted R-Square than those for non-lagged and one-month lagged indices."
Citing the fact that the current wholesale market is showing weakness (according to recent reports from both Manheim and ADESA), the company said, "loss severity in auto ABS is under pressure due to lower used-vehicle values and loan structure trends, e.g., longer loan terms and higher LTV ratios.
"Nevertheless, rating performance has been stable in the prime auto ABS sector through the first quarter of 2008, even in light of declining asset performance," executives pointed out. "In the subprime sector, outside of ratings actions related to the financial guarantors' insurer financial strength, rating performance has been relatively stable in 2008 despite negative asset performance within the sector."
Fitch's Latest ABS Indices' Performance
After hitting a six-year high in the fourth quarter of last year, Fitch indicated that its Auto ABS indices continued to remain under pressure for the first quarter and will likely continue this pattern in the second quarter.
"Fitch Ratings' prime delinquency and annualized net loss indices posted some improvement in March following historically seasonal patterns. The prime 60-days-or-more delinquency index declined to 0.63 percent in March after hitting a 10-year high of 0.77 percent in January. The March level was more than 16 percent lower compared with February, but 34 percent higher than that of March 2007," executives wrote in a separate report.
Basically, the company said, "The ANL index exhibited higher levels throughout the quarter, rising to 1.35 percent in March, up from 1.33 percent in February and 1.28 percent in January. On a year-over-year basis, ANL in March 2008 surged 73 percent above levels in March 2007."
While March levels were higher than those witnessed in the strongest performing years of 2005 to 2007, officials explained that they remained within or below past historical levels that were found prior to 2005.
"Seasonally adjusted cumulative net losses were 0.74 percent in March 2008, virtually unchanged over February (0.75 percent) representing a 19-percent increase from the performance seen in 2007; however, historically, the index is still well below the historical highs experienced in mid-1997," according to Fitch.
Due to economic factors, the company predicted that its prime index will continue to come under pressure, which will result in higher delinquency and loss levels during the second quarter.
On the subprime ABS side, executives said that after reaching higher levels in the first few months of this year, the index showed improved delinquency and loss performance during March, which ultimately led to a net improvement in the first quarter.
"The subprime delinquency index was at 2.93 percent in March, down from 3.74 percent and 4.03 percent in February and January, respectively," officials pointed out. "Delinquencies thus decreased 22 percent in March versus February's level. However, versus March 2007, delinquencies were 33 percent higher in 2008 on a year-over-year basis after hitting a 10-year high back in January."
Over the quarter, this index went from 8.46 percent in January to 8.54 percent in February and then to 7.39 percent in March.
"ANL levels were 56 percent higher in March 2008 versus March 2007. March's loss levels are well above the historical lows produced in 2005 and 2006 and current consistent with performance exhibited in 2004 and 2003," the company indicated.
"Subprime ABS performance remains highly sensitive to changes in consumer economics, along with other factors, including changes in the wholesale vehicle market. Therefore, as with the prime sector, Fitch does not expect much improvement in performance during the second quarter outside any seasonal benefits presented in the tax season," executives related.
As for ABS issuance, this lingered below the same period of last year on the subprime side; however, prime issuance was up 38 percent from the same period in the prior year.
Overall, issuance (including auto loan, lease/rental, dealer floor plan and truck/motorcycle loans) reached $12.4 billion through March, down 18.4 percent from the same period of 2007.
"Only three auto ABS deals came to market in March for a total of $2.97 billion versus $10.31 billion issued in March 2007," the company said. "Year-to-date, prime auto loan issuance made up 76 percent of total issuance through March, up from 38 percent in the same period in 2007.
"Subprime auto ABS issuance has effectively been silenced in 2008, with only one transaction coming to market in the first quarter, issuance was down 78 percent in 2008 versus 2007 through the first quarter," the company continued.
The report did not include issuances announced after March.