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Announcement:

Moody's: Longer-term loans in US prime auto ABS less creditworthy due to multiple risks

22 May 2018

New York, May 22, 2018 -- Longer-term loans in its rated US prime auto asset-backed securities (ABS) are of weaker credit quality than commensurate shorter-term loans, Moody's Investors Service says in a new report. The more prevalent combination of risk factors, known as risk layering, slower amortization and so longer exposure to negative credit events, add up to higher losses in loans with original terms of 72 months or more, as defined by the loan-level data disclosed under Reg AB II. Meanwhile, loan terms continue to increase as lenders compete for business.

"Our analysis shows that longer-term loans in US prime auto ABS have weaker credit characteristics than shorter-term ones," says Nicky Dang, a Moody's Senior Vice President. "The loans with longer terms are generally to less creditworthy borrowers and contain more layers of risk, as evidenced by borrowers' lower average credit scores, higher loan-to-value (LTV) ratios, and higher payment-to-income ratios."

Weighted average borrower credit scores for longer-term loans are 10 to 60 points lower than they are for shorter-term loans backing prime auto loan ABS, Dang says. And the difference between LTV ratios between longer- and shorter-term loans ranges from four to 25 percentage points, with bank loans at the lower end of the range and loans from captive lenders at the higher end. Borrowers whose loans have higher LTV ratios have less equity in their vehicle, and where the ratio is over 100%, owe more than the vehicle is worth. Furthermore, longer-term loans are, on average, taken out by borrowers with lower income, as evidenced by higher payment-to-income (PTI) ratios for these borrowers and similar payment amounts to shorter-term loan borrowers.

Despite the risks associated with longer-term loans, loan terms in prime auto ABS transactions and lenders' portfolios have continued to lengthen, Moody's says. The average original term of the loans backing Moody's-rated prime auto loan ABS increased by about three months between 2010 and the first quarter of 2018. The average original term of quarterly loan originations by all lenders increased by five months between Q1 2010 and Q4 2017.

Auto lenders appear to take "risk layering" into account when pricing loans. APRs on loans with longer terms are commonly higher, which in Moody's view reflects both term premium for longer duration and the higher risk premium charged because of risk layering. However, competition is also a consideration in setting APRs. Competitive pressure can compress risk premiums on longer-term loans, erode APR-related credit protection in a downturn, and cause net losses for lenders.

Moody's research subscribers can access this report, "Auto loan ABS - US: Risk layering contributes to the credit risks of longer-term loans in prime deals," at https://www.moodys.com/researchdocumentcontentpage.aspx?docid=PBS_1086183.

NOTE TO JOURNALISTS ONLY: For more information, please call one of our global press information hotlines: New York +1-212-553-0376, London +44-20-7772-5456, Tokyo +813-5408-4110, Hong Kong +852-3758-1350, Sydney +61-2-9270-8141, Mexico City 001-888-779-5833, São Paulo 0800-891-2518, or Buenos Aires 0800-666-3506. You can also email us at mediarelations@moodys.com or visit our web site at www.moodys.com.

This publication does not announce a credit rating action. For any credit ratings referenced in this publication, please see the ratings tab on the issuer/entity page on www.moodys.com for the most updated credit rating action information and rating history.

JingJing Dang
Senior Vice President/Manager
Structured Finance Group
Moody's Investors Service, Inc.
250 Greenwich Street
New York, NY 10007
U.S.A.
JOURNALISTS: 1 212 553 0376
Client Service: 1 212 553 1653

Nicholas Monzillo
Associate Lead Analyst
Structured Finance Group
JOURNALISTS: 1 212 553 0376
Client Service: 1 212 553 1653

Releasing Office:
Moody's Investors Service, Inc.
250 Greenwich Street
New York, NY 10007
U.S.A.
JOURNALISTS: 1 212 553 0376
Client Service: 1 212 553 1653

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