Cars make money like houses – for now
Financially, your car is more like your home at the moment, which brings new opportunities and risks that are difficult to predict.
Used car values broke records over the past year, with inflation at an unprecedented 24% according to the latest official data. This is painful for car buyers, but there is a less discussed downside: it’s a great time to be a car owner.
American auto loans are similar to home loans, but in normal times the assets behave differently. Typically, homes go up in value while vehicles go down in value. As a result, car owners often have negative equity in their car, meaning they owe more than the car is worth. While this would be a stressful situation for homeowners – and their lenders – it is almost routine for car owners. People often make all the difference when they trade bikes, with either cash or additional debt.
But these are not normal times. As used car values have skyrocketed, the proportion of auto loans that are underwater has fallen dramatically. This can be seen from the trade-in values. The percentage of vehicles with negative equity at trade was 17.6% in September, the lowest since 2009, according to Edmunds auto shopping data website. That number was typically over 30% in the years leading up to the pandemic.
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In practice, this means that cars can be treated a bit like houses during a housing boom. Many consumers can benefit from refinancing because the additional equity in their vehicle can qualify them for a lower interest rate. And it’s a sensational time to downsize or reduce the number of your cars. Anyone who owns a 2014 model year is particularly happy: The average transaction prices for seven-year-old vehicles in September were 38% higher than a year earlier, Edmunds found out.
It’s a good time to be a car rental company too. The value of collateral has increased and defaults are low, perhaps because consumers received cash from the government during the pandemic. According to Experian, around 1.3% of borrowers were behind with their payments at the 30-day mark in the second quarter, up from 2% in the same period prior to the 2019 pandemic.
The clearest losers in this situation are those that have also appeared in the history of the real estate boom: first-time buyers. All the more so as conditions in the auto market are expected to normalize – although all of this indicates that it will take a long time.
In the last two months, consumers paid for new cars on average above the manufacturer’s recommended retail price. It’s hard to imagine these vehicles performing as well in the used market as those bought in the more typical years of plenty. In a few years, there could be a surge in trade-ins in negative stocks.
Perhaps the greatest risk in the current situation is simply the uncertainty: Nobody has any experience with such a car market and what unexpected results it could lead to. Rising asset prices seem to produce mostly winners. Losers tend to show up further down the road.
Write to Stephen Wilmot at [email protected]
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