NEW YORK — In its latest market analysis, Fitch Ratings shared its take on what 2009 will likely bring for auto finance metrics. Getting even more specific, Fitch took a close look at how some captive and non-companies are performing to support its overall conclusions.

Kicking it off, Fitch explained that while it's a new year, it is "expecting more of the same in terms of credit quality trends in the retail auto finance space."

"A slowing economy, rising job losses, volatile commodity prices and a weak used-car market, combined with the poor financial health of the Detroit 3 manufacturers, are all expected to contribute to deteriorating credit metrics and higher funding costs in the auto finance market throughout 2009," company analysts indicated in their report.

"Historically, many auto lenders have funded a portion of their loan portfolio in the asset-backed securitization market, but spillover from the subprime mortgage crisis, combined with deteriorating collateral performance yielded a significant widening of spreads in capital markets in 2008," they continued.

"Higher funding costs (from wider spreads and higher enhancement levels), along with waning investor demand, forced many to reduce origination volume significantly and lenders with bank charters have financed a greater portion of their portfolio on-balance sheet with deposits," according to the company.

In fact, Fitch reported that auto ABS volume came in at $44.9 billion last year, down 40.2 percent from the prior year and down 61.4 percent from "peak issuance" in 2005. Overall, the company indicated that ABS issuance was slanted heavily to the first half of the year.

Based on this analysis, Fitch said that its outlook for the auto finance industry "is negative for 2009 given deteriorating collateral performance and the difficult funding environment.

"Fitch took numerous rating actions in the auto space in 2008 to reflect these trends and rating pressure is expected to remain throughout 2009," officials highlighted. "Portfolio credit losses beyond Fitch's expectations, with corresponding hit to profitability, a reduction in liquidity and/or deteriorating risk-adjusted capital levels, could prompt negative rating action at non-diversified auto lenders. Rating action for larger, more diversified, non-captive lenders is not likely to be driven by the performance of auto finance businesses alone, although auto segments could contribute to negative rating momentum."

Not surprisingly, credit metrics in the auto space are closely tied to the economy.

"The combination of rising unemployment statistics, volatile gas prices, falling used-car prices and higher consumer debt levels wreaked havoc on consumer auto portfolios in 2008 and economic pressure is expected to continue throughout 2009," executives explained. "The level of peak credit losses will be driven by the depth and duration of the economic downturn, but the degree of relative lender deterioration will be dependent upon an issuer's ability to tighten underwriting, manage portfolio growth, collect delinquent accounts and manage the disposal of reposed collateral. Still, portfolio credit metrics will be hurt by portfolio contraction from tighter underwriting and significant reductions in new-car sales."

More specifically, loss frequency in the auto sector tends to be closely linked to unemployment rates, as unemployed folks are generally less able or willing to remain current on payments.

The unemployment rate has been increasing since late 2007 and came in at 7.6 percent in January of this year, up 270 basis points on a year-over-year basis.

"Fitch believes the unemployment rate will get worse as 2009 progresses, which signals further deterioration in the performance of auto loan portfolios," officials said. "Fitch expects prime auto losses to reach 2.75 percent in 2009 and prime delinquencies of 60 days or more to reach 1.25 percent.

"Prime auto losses peaked at 1.7 percent during the previous downturn in March 2003 when unemployment was 5.9 percent. While the economic recession was relatively mild, used-car values were hurt by a material increase in supply as rental car companies de-fleeted in response to reductions in airline travel and a significant amount of leased vehicles were turned in," the company noted.

Continuing on, Fitch took a look at charge-offs, finding that in its prime and subprime auto indices, which cover about $52 billion in securities, the rates have tracked in line with unemployment.

"Prime charge-offs, which Fitch has been tracking since 1998, hit record highs of 2.1 percent in November 2008 before falling to 1.97 percent in December," executives said. "Charge-offs have been steadily increasing since hitting 0.52 percent in June 2006. Subprime charge-offs also reached record highs in November 2008 at 10.1 percent before dropping to 9.85 percent in December. These loss metrics are up significantly from bottoming at 3.40 percent in June 2006."

Prime delinquencies of 60 days or more came in at 0.85 percent in December, which is the highest delinquency level produced by the index in a decade, Fitch went on to highlight.

"Fitch believes loss and delinquency trends will continue to deteriorate, particularly as older vintages amortize and poorer-performing 2007 vintages account for a larger portion of the indices," officials explained.

Consumer debt levels also clearly play a role in delinquencies.

"Consumer leverage, as measured by the financial obligations ratio, rose above 19 percent in the second quarter of 2005 for the first time since the metric's inception in 1980," the company pointed out. "The FOR peaked at 19.49 percent in the fourth quarter of 2007 and was 19.05 percent in the third quarter of 2008, above the ratio's long-term average of 17.40 percent. Fitch believes consumers are attempting to de-leverage, but unemployment levels will have a lot to do with their ability to do so."

Other factors that play a role in delinquencies are loan term and loan-to-value ratios.

"Competition in the auto industry has significantly lengthened the average term of an auto loan in recent years. A 72-month contact is now an industry standard and some lenders are extending terms as far as 84 months," Fitch stated. It went on to mention that, "A longer loan-term implies a slower repayment of principal. Fitch expects issuers with a greater proportion of 72-month loans to experience higher loss severity and more profitability pressure."

Moreover, strong competition in auto loans also drove up LTV ratios, which also has a negative impact on loss severity.

"Higher delinquency rates have led to a rise in repossession activity and therefore, an increase in the supply of used cars in the market," officials reported. "Increased supply not matched by increased demand reduces used-car pricing, which negatively impacts recovery values for lenders selling repossessed cars in the auction and/or wholesale markets. The precarious health of the Detroit 3 manufacturers has also pressured used-car values. Chrysler, General Motors and Ford vehicle prices have taken a bigger hit relative to the non-U.S. manufacturers because the weakened financial position of the companies has a negative impact on the value of the brand."

Overall, the company said, "Fitch believes used-vehicle values will remain under pressure in 2009 as the economy weakens, delinquency trends continue and the used-car market digests increased supply from lease turn-ins and rental car companies de-fleeting in response to lower than expected airline travel in 2009. Waning consumer demand and the increased use of manufacturer incentives will also constrain used-vehicle values."

Stepping in for a closer look at recovery values, Fitch turned to AmeriCredit, which is a subprime auto lender that reports annualized net recoveries as a percentage of gross repossession charge-offs on a quarterly basis.

"The relationship between its recovery statistics and the Manheim index is clear. As the index dropped in the fourth quarter, AmeriCredit's recoveries declined from 41.6 percent to 37.1 percent. This relationship is not AmeriCredit specific, but representative of trends experienced by all lenders in the auto industry. There is evidence that January used-car values have improved modestly, but Fitch is expecting 2009 to be a weak year," officials indicated.

Reviewing some of the auto lenders and captives it covers, such as Ford Credit, GMAC and Toyota Financial Services, along with AmeriCredit, Capital One, HSBC Auto Finance, Chase and Wachovia (now a part of Wells Fargo), the company indicated the most lenders "pulled back considerably" on auto lending last year. This was largely due to funding conditions and collateral deterioration by tightening underwriting standards and reduced dealer relationships.

"Based on available data, AmeriCredit, which is primarily a subprime auto lender, had the most extreme portfolio contraction in 2008, as average managed loans declined nearly 17.5 percent annually by year-end. The company's heavy reliance on ABS funding has limited its ability to grow and origination volume in the December quarter fell from $1.8 billion in 2007 to $321 million in 2008. Projected run rates are close to $100 million per month for calendar 2009," officials explained.

The company also noted that HSBC Auto Finance elected to exit the auto origination business in 2008.

"The company discontinued new auto loan originations from dealer and direct-to-consumer channels in July 2008 and is only originating branch loans until a third-party provider can be found. The portfolio amounted to $11.5 billion at the end of September, down nearly 12.5 percent year-over-year, and the portfolio will continue to amortize over time," executives said.

Meanwhile, Fitch found that Chase and Wachovia expanded their portfolios last year as "hefty deposit bases provided more funding flexibility."

"Wachovia posted a relatively high growth rate in 2008, but its combination with Wells Fargo, another large non-captive lender, may alter the bank's growth strategy going forward," Fitch noted.

"JP Morgan Chase grew its portfolio in 2008 after some portfolio shrinkage in 2007, but the rate of growth declined in the second half of the year. Fourth-quarter originations were $2.8 billion, down 50 percent from the prior year," the company discovered.

As for Capital One Auto Finance, Fitch said that, "Capital one re-aligned its organizational structure in 2008 to reduce reliance on ABS funding, but poor performance on 2005 and 2006 dealer prime vintages led the bank to reduce origination volumes materially in 2008. Fitch expects additional contraction in the portfolio in 2009."

Apparently and not surprisingly, the domestic captives pulled back on auto lending as well last year. However, non-domestic captives, such as Toyota Financial Services, jumped in to fill the gap and take advantage of the lessened competition to expand its portfolio.

"Toyota's quarterly growth, which includes retail contracts and dealer financing receivables, averaged 14.81 percent in 2008, but the pace of growth slowed in the latter half of the year. Fitch believes growth may slow further in 2009 given the weak economic picture," according to the company.

The company has found that credit metrics at non-captives is varying widely depending on the portfolio mix. For instance, Fitch said it believes that Chase's portfolio is more heavily weighted toward prime credit, while AmeriCredit has the most subprime exposure.

In between Chase and AmeriCredit are Wachovia, followed by Capital One and then HSBC Auto Finance.

"Slowing growth, and in some cases, portfolio contraction certainly had a negative impact on lender credit metrics in 2008, given the denominator effect," Fitch explained. "When lagged metrics are lower than coincident metrics, growth is having an impact on current period loss rates."

AmeriCredit posted the highest net charge-off rate in the last quarter of 2008, at 9.5 percent.

"Holding other variables constant, management indicated that portfolio shrinkage had a 100 basis point impact on the net loss rate in the quarter and they expect another 100 basis point impact before calendar 2009 is over. The company's higher net loss rate is driven by its weight toward subprime borrowers and used-car collateral. The company's near-prime portfolio, with a hefty exposure to California borrowers, has also had a negative impact on portfolio metrics," Fitch said.

Meanwhile, the company said that HSBC's loss metrics have taken an impact since the portfolio is amortizing down.

"The company posted coincident net losses of 5.83 percent in the third quarter of 2008, but lagged losses were lower at 5.10 percent. Fitch believes the fourth quarter coincident loss metric will be materially higher given the deterioration experienced by other auto portfolios," officials reported.

As for Capital One, its metrics have "suffered from a shrinking portfolio, but its losses have also been hurt by poor performance of 2005 and 2006 dealer prime vintages, which were underwritten following a change from a judgmental to an automated underwriting process," Fitch explained.

"Net charge-offs amounted to 5.67 percent in the fourth quarter of 2008, up 167 basis points year-over-year, and up 338 basis points since the beginning of 2007," the company reported. "While management believes the credit performance of 2008 originations are encouraging, Fitch believes the company's metrics will continue to suffer as older vintages season and the portfolio shrinks."

Chase, meanwhile, apparently posted the strongest non-captive loss metric for the last quarter of 2008, although Fitch said "its rate of fourth-quarter degradation was relatively high." Basically, the net loss rate increased 80 basis points sequentially from 1.12 percent to 1.92 percent.

Next up were captives, which the company said are more heavily weighted toward prime borrowers than typical bank portfolios.

"Ford reported the lowest loss rate of the U.S. manufacturers at 1.73 percent in the fourth quarter of 2008. But GMAC's higher loss rate at 2.51 percent in the fourth quarter is, in part, by design as the company originated a greater degree of used-car loans in recent years. Chrysler financial has implemented a similar strategy. Ford and GMAC's loss rates have deteriorated 61 basis points and 120 basis points, year-over-year, respectively," executives said.

Looking at Toyota, Fitch noted that it publishes annualized loss metrics for each year-to-date period rather than quarters, so the company estimated quarterly loss metrics based on annualized date for comparability purposes.

"However, Toyota's loss metrics include retail loans and lower-loss dealer finance loans, where other lender statistics are based on retail exposure alone. Toyota's metrics have generally deteriorated in-step with other lenders. The net charge-off rate in the December quarter amounted to 1.88 percent, up 59 basis points from the prior quarter," officials wrote in their report.

Finally, Fitch officials summed up their report by saying, "While auto loan credit metrics typically improve in the first and second quarters of the year, according to seasonal patterns, Fitch believes slow growth, the weak economy and depressed used-car values will offset any seasonal benefits in 2009."