Embed Size (px)
Citation preview
MOODYS.COM
DATE MONTH YEAR
SPECIAL EDITION
AUTHORS Yan Yan Structured Finance Group
Felix Hu Structured Finance Group
Peter McNally Structured Finance Group
Sophia Koropeckyj Moody’s Analytics
Sanjay Wahi Structured Finance
Focus on Auto Lease ABS FEATURE ARTICLES
Pull-Ahead Programs Pose Little Credit Risk for Existing Auto Lease ABS Marketing programs that allow lessees to exit their leases before they mature pose only limited credit risk, but the amount can vary across transactions issued by different sponsors.
2
Strong Used Car Market Drives Auto Lease ABS Issuance but Introduces New Risks The strength of the used car market has led to a record high issuance of auto lease ABS. It has also introduced some risks, first that lower monthly lease payments may attract less creditworthy customers, and, second, that there will be higher residual value losses.
3
Higher Securitized Residual Values May Lead to Higher Credit Enhancement Levels in Some Auto Lease ABS Transactions Our required Aaa-level credit enhancement levels relative to securitized residual vehicle values may generally increase because rising securitized residual values on off-lease vehicles increase exposure to a potential used-vehicle market correction.
6
Historical Vehicle Auction Data Is the Most Consistent Predictor of Auto Lease ABS Residual Values High used vehicle prices can lead to higher losses in future auto lease transactions because they often lead to higher residual values on new leases. We base our lease pool residual value analysis on the vehicles’ actual average value realized at auction.
8
Record-Breaking Used Auto Prices Help Existing Auto Lease ABS More than New ABS The high prices are credit-positive for outstanding auto lease ABS because they help increase over-collateralization, but are negative for future auto lease ABS because they introduce a greater risk of loss if issuers increase the residual value of leased autos.
11
Used Vehicle Prices Likely to Remain Elevated for Years The unusual increase in used vehicle prices we have been seeing is not a bubble. Prices should stay high as the supply of used vehicles remains limited.
13
Leasing’s Return Helps Vehicle Sales In addition to the improving macroeconomic drivers, an increase in leasing is facilitating and accelerating the recovery in vehicle sales.
16
2 MOODY’S AUTO NAVIGATOR OCTOBER 19, 2011
Pull-Ahead Programs Pose Little Credit Risk for Existing Auto Lease ABS
This article originally appeared in “Moody’s Auto Navigator,” October 2011
Most auto manufacturers offer “pull-ahead” marketing programs in which existing lessees that lease or purchase new vehicles are able to exit their current leases before they mature. Bondholders receive the waived monthly payments when the vehicle is pulled ahead. Since bondholders receive the waived monthly payments on a timely basis, the programs pose only limited credit risk. Although the risk is low, it can vary across transactions issued by different sponsors.
Under a “pull-ahead” or “pull-forward” program, a manufacturer will effectively shorten the existing lease term for lessees that agree to lease or buy a new vehicle before their current lease matures. Typically, the manufacturer offers to pay the remaining monthly lease installments on targeted models under leases with a few months to maturity. Manufacturers usually offer pull-ahead to lessees of their own vehicles, but in some cases a manufacturer may offer pull-ahead to lessees of competing manufacturers’ vehicles. Pull-ahead programs appeal to those customers that would like to get a new vehicle before their existing lease matures.
Pull-ahead mechanisms vary across lease transactions
Among current sponsors of auto lease ABS, the extent to which ABS bondholders receive payments following a pull-ahead agreement will differ (Figure 1). Some bondholders receive the full “securitization value” of the pulled-ahead leases, while others are guaranteed only the value of the waived monthly payments, in some cases net of any unearned finance charges. Even in those cases where the trusts might receive full undiscounted monthly lease installments, bondholders are only entitled to payments based on the discounted securitization value. To the extent that the excess cash exceeds any credit or residual value loss, it will leak out of the transaction.
World Omni lease ABS provide bondholders with the most generous terms regarding pull-ahead payments. In those transactions, bondholders receive at least the “securitization value” of the pulled-ahead leases. The securitization value is the present value of the monthly lease installments and the base residual value using a discount rate high enough to provide for some excess spread after covering monthly ABS expenses. Since the securitization value is the basis on which the lease ABS bonds are issued, bondholders are made whole on both the monthly installment payments and the residual value portions.
In Ford Credit- and Nissan-sponsored programs, the securitization trusts receive the waived monthly installment payments when the vehicles are pulled ahead. Unlike in World Omni transactions, bondholders still face market value risk upon the return of the leased vehicle because the vehicle’s securitized residual value is not included in the payments. However, a vehicle that is returned upon pull-ahead should fetch a higher residual realization than if it was returned at lease maturity and reduce the bondholders’ exposure to potential residual value loss.
In the Volkswagen and Hyundai ABS programs, bondholders receive the waived monthly rent payments that are net of unearned finance charges, preventing the finance company from “earning” monthly finance charges on the accelerated payments. The trust does benefit, however, by receiving the cash earlier than expected, and also by fetching higher realization on vehicles that are returned earlier than expected.
Yan Yan Vice President – Senior Analyst [email protected]
3 MOODY’S AUTO NAVIGATOR OCTOBER 19, 2011
FIGURE 1
Pull Ahead Payment Mechanisms Among Current Lease ABS Programs* Lease ABS program Payment Amount Timeframe
World Omni** = Securitization Value No Delay Ford Waived Monthly Payments No Delay Nissan Waived Monthly Payments No Delay Hyundai** Waived Monthly Payments of Unearned Rent Charge No Delay VW Waived Monthly Payments of Unearned Rent Charge No Delay
*based on the disclosing documents of the sponsors’ most recent ABS lease transactions. Actual practice may differ.
**Currently do not have pull ahead program.
Other pull-ahead programs could introduce greater credit risk
The pull-ahead programs among current sponsors of lease ABS that we have examined pose only little credit risk to the securitizations because bondholders generally receive payment on the pulled-ahead leases with no delay. They could, however, introduce greater credit risk into a transaction were there a possibility that the manufacturer or other entity responsible for making up the waived lease payments could default before payment is made. In order to evaluate this incremental credit risk, we would incorporate the sponsor’s historical pull-ahead experience in our assessment of a transaction’s credit enhancement. Other important factors that we would consider include the rating of the entity making the waived payments, the number of pull-ahead programs announced, the number of pull-ahead payments likely to be made, the number of leases eligible for pull-ahead under those programs, and the number of consumers likely to take advantage of the program (i.e., the “take rate”).
Even if a pull-ahead program contributes some credit risk to a securitization, it will also provide a transaction with an incremental increase in residual value realization. We would give some modest credit for expected leases pulled-ahead due to lower depreciation on vehicles that are returned prior to lease maturity.
Strong Used Car Market Drives Auto Lease ABS Issuance but Introduces New Risks
This article originally appeared in “Moody’s Auto Navigator,” October 2011
The strength of the used car market has resulted in record high issuance of auto lease ABS in 2011 but brings with it two potential ramifications for securitized transactions. First, the lower monthly lease payments that result from higher contractual residual values on off-lease vehicles may attract less creditworthy, payment-sensitive customers that could eventually hinder the performance of securitized lease pools. Second, credit enhancement on lease transactions, already at elevated levels, will likely remain high in order to address not only the prospect of higher credit losses but also the prospect of higher residual value losses that could result from higher contractual residual values.
Felix Hu Vice President -Senior Analyst [email protected]
4 MOODY’S AUTO NAVIGATOR OCTOBER 19, 2011
Strong used car market drives record high auto lease ABS issuance
Favorable market conditions have led to a record surge in auto lease securitization over the first three quarters of 2011. By September 30, total issuance of US auto lease ABS rated by Moody’s reached a new yearly high of about $ 9.0 billion from eight transactions (Figure 1). Both frequent auto lease issuers such as Nissan, Ford, BMW and World Omni, and first time issuers such as Mercedes-Benz and Hyundai, have taken advantage of the favorable environment and funded through the securitization market.
FIGURE 1
US Public and Private Auto Lease ABS Issuance Rated by Moody’s
Source: USPublic and Private Auto Lease ABS rated by Moody’s; *year to date through Aug
The most important driver behind the record high auto lease ABS issuance is the strong used car market. In general, there is a positive correlation between used vehicle prices and lease origination volumes, and used vehicle values, as measured by the Manheim Used Vehicle Value Index, have also reached record highs in 2011 (Figure 2). High used vehicle prices tend to support lease origination because they improve the economics for the lessees by reducing the difference between contract residual values and the vehicles’ MSRPs, allowing the lessors to lower the monthly lease payments. A projected strong used car market also provides for a favorable ABS issuance environment because it reinforces investors’ confidence that residual value loss will be limited as long as used car values stay high.
FIGURE 2
Higher Residual Values Help to Drive Auto Leasing
Source: CNW/Marketing, Edmunds.com, Manheim Auctions, *year to date through Aug
0.0
1.0
2.0
3.0
4.0
5.0
6.0
7.0
8.0
9.0
10.0
2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011*
US$ billion
90
95
100
105
110
115
120
125
130
0.0
5.0
10.0
15.0
20.0
25.0
30.0
35.0
00 01 02 03 04 05 06 07 08 09 10 11*
Leases, % of new vehicle sales (L) Manheim index (R)
5 MOODY’S AUTO NAVIGATOR OCTOBER 19, 2011
Issuance surge raises specter of adverse selection
Although leasing generally tends to attract better-qualified customers that switch cars every few years, the popularity of leases raises the possibility that an increasing numbers of them may go to weaker lessees. If lenders take advantage of the ability to offer lower monthly payments to ramp up origination volume too far, they might reach too deep into the credit spectrum and attract less creditworthy, payment-sensitive customers.
That hasn’t been the case thus far, as the credit quality of the lessees in recent lease transactions are at historical highs with weighted average FICO scores of around 750-760 versus the historical average around 730-7401
and are stronger than those in most issuers’ counterpart retail prime loan ABS (Figure 3). These strong credit profiles, coupled with short average terms of mostly under 36 months, bode well for the future credit performance of the recent lease transactions.
FIGURE 3
Weighted Average Lease and Loan Pool FICO Scores, by Issuer
Issuer Ford BMW Mercedes-
Benz World Omni Hyundai Nissan
Most Recent Auto Lease ABS Transaction 742 762 768 748 751 750
Most Recent Auto Loan ABS Transaction 727 760 761 731 746 760
Record-breaking used auto prices have elevated lease ABS credit enhancement levels
While the record-breaking used auto prices have boosted lease ABS issuance, they have also directly elevated the transactions’ credit enhancement levels through two main factors. First, because recent transactions are typically backed by a larger percentage of residual value (versus monthly payments), they necessitate higher credit protection even based on the same residual value stress. Second, the higher residual values underlying recent transactions will expose investors to higher risks should the used car market reverse its course.
Since most of the credit enhancement for auto lease ABS is sized to cover residual value risks, we apply a steep residual value stress when evaluating a pool’s Aaa credit enhancement. At closing, a Aaa-rated lease-backed security can withstand residual value stresses of at least 35% to 40% of average auction realization,2 a much more severe stress than the 15% to 20% residual value loss experienced by most issuers amid the steepest used car market downturn between 4Q 2008 and 3Q 2009. These stresses, applied to residual values that have accounted for an increasing proportion of recent transactions’ securitized value, have helped to elevate our minimum required Aaa enhancement levels on auto lease transactions to around 25% in the years between 2008-20113
from the 10% to 15% range in transactions from 2000-2007 (Figure 4). Looking forward, we expect credit enhancement levels to remain elevated as long as used car market conditions are favorable.
1 To see further issuer-specific lease transaction pool comparisons, please see the most recent presale reports for Ford, BMW,
Mercedes-Benz, World Omni, Hyundai, and Nissan transactions on moodys.com. 2 For more information, please see “Moody’s Approach to Rating Auto Lease Securitizations,” September 14, 2011. 3 The all-time high credit enhancement required in 2008 was driven by credit concerns rather than by high used vehicle prices,
as the significant bankruptcy risks surrounding the related issuers called for residual value stresses as high as 50%.
6 MOODY’S AUTO NAVIGATOR OCTOBER 19, 2011
FIGURE 4
Average Minimum Required Aaa Credit Enhancement for Auto Lease ABS Rated by Moody’s
*year to date through Aug
Higher Securitized Residual Values May Lead to Higher Credit Enhancement Levels in Some Auto Lease ABS Transactions
This article originally appeared in “Moody’s Auto Navigator,” September 2011
Even though the collateral backing recent auto lease ABS transactions has been similar to that of earlier transactions, our required Aaa-level credit enhancement levels relative to securitized residual vehicle values may generally increase over the coming months. This is because rising securitized residual values on off-lease vehicles have increased investor exposure to a potential used vehicle market correction. We account for this risk by basing our credit enhancement analysis on the historical realization values of vehicles sold at auction. Using historical realization values covers the greater potential for residual value losses that arises when securitized residual values are high.
Residual value losses in auto lease ABS transactions occur when off-lease vehicles are sold for less than their securitized residual values, which are typically based on estimates made by DealerTrack Holding’s Automotive Lease Guide (ALG). In order to estimate the potential losses, we assume that off-lease vehicles are sold at 35%-50% of the vehicle’s average historical auction realization value. The haircut that we apply to the average auction value varies from transaction to transaction based on factors ranging from model and maturity concentrations, the issuer’s historical residual value performance, and the underlying strength of the manufacturer.
Credit Enhancement Depends Upon Securitized Residual Values
We determine the amount of Aaa-level credit enhancement necessary to cover residual value losses by calculating the difference between the securitized residual values and these stressed residual values. This means that as ALG estimates rise, so does the required credit enhancement as a percentage of the
0.00%
5.00%
10.00%
15.00%
20.00%
25.00%
30.00%
2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011*
Felix Hu Vice President -Senior Analyst [email protected]
7 MOODY’S AUTO NAVIGATOR OCTOBER 19, 2011
securitized residual values. The result is a somewhat paradoxical relationship in which required credit enhancement rises during periods in which the used vehicle market is strong.4
Take, for example, a three-year-leased vehicle that historically has sold for about 60% of its original MSRP at auction after three years. With other factors being equal, the required credit enhancement for that vehicle will rise along with its securitized residual value (Figure 1). In Scenario 1, in which the vehicle’s securitized residual value is equal to its average realization at auction, the required credit enhancement is equal to our stressed value haircut of 40%. If, as in Scenario 2, its securitized residual value is higher than its historical average realization, the required credit enhancement rises. In contrast, the required credit enhancement falls with the securitized residual value, as in Scenario 3.
FIGURE 1
Impact of ALG Residual Value on Required Credit Enhancement Levels Securitized Asset: 3-year Leased Vehicle with MSRP of $25,000
Scenario Scenario 1 Scenario 2 Scenario 3 Note
Securitized Residual Value $15,000 $16,250 $13,750
Expected Residual Realization Based on Historical Average Auction Experience
$15,000 60% x MSRP
Aaa-Level Residual Value Stress Haircut 40%
Stressed Residual Value $9,000 b. x (100% - c.)
Aaa-Level Required Credit Enhancement $6,000 $7,250 $4,750 b. – e.
Aaa-Level Credit Enhancement as % of Securitized Residual Value
40% 45% 35% e. / a.
Recent Increase in Securitized Residuals Led To Higher Required Credit Enhancement in Recent Nissan Transaction
Nissan’s most recent three transactions illustrate the impact of rising securitized residual values on required credit enhancement (Figure 2). In the two 2010 transactions in which securitized residual values were roughly equal to historical average auction realization, the Aaa-level required credit enhancement was equal to the stressed residual value haircut. The 2011 transaction, however, saw a rise in its required credit enhancement due solely to a run-up in securitized residual values.
FIGURE 2
Nissan Auto Lease ABS
Deal Name Closing Date Residual Value Haircut as %
of Historical Auction Value Aaa-Level Credit Enhancement as
% of Securitized Residual Value
Nissan Auto Lease Trust 2010-A May 2010 37% 37%
Nissan Auto Lease Trust 2010-B Nov 2010 35% 35%
Nissan Auto Lease Trust 2011-A Jul 2011 35% 40%
To the extent that used car prices and securitized residual values remain at high levels, we expect that they will lead to higher credit enhancement levels for auto lease transactions that close in the near future. Whether they rise relative to an issuer’s earlier transactions and by how much depends upon other factors such as the transaction’s total residual value exposure, the pool vehicle mix (i.e., the relative concentrations of SUVs, trucks, and sedans), and the concentrations of loan terms (long term versus short term).
4 For more details, see “Historical Vehicle Auction Data Is the Most Consistent Predictor of Auto Lease ABS Residual Values,”
Moody’s Auto Navigator, July 15, 2011.
8 MOODY’S AUTO NAVIGATOR OCTOBER 19, 2011
Historical Vehicle Auction Data Is the Most Consistent Predictor of Auto Lease ABS Residual Values
This article originally appeared in “Moody’s Auto Navigator,” July 2011
High used vehicle prices can lead to higher losses in future transactions because they often lead to higher securitized residual values on new leases that reduce residual value gains and/or increase residual value losses.5
Securitized Residual Values Overstate Future Values During Declining Markets
Because of this tendency for securitized residual values to lag trends in used vehicle prices, we base our lease pool residual value analysis on the vehicles’ actual average values realized at auction. Since auction values and securitized residual values are most likely to diverge after used vehicle prices have peaked, the current run-up in market prices will likely lead us to require higher credit enhancement, at a given rating level, to cover residual value losses in forthcoming lease transactions.
The risk of residual value loss, which is the risk that a vehicle at lease maturity will sell for less than the value estimated at the time of the securitization, is the key risk in auto lease securitizations. The securitized residual values are typically based on estimates made by DealerTrack Holdings’s Automotive Lease Guide (ALG).
Because of the cyclical nature of used vehicle prices (Figure 1), securitized residual values based on ALG estimates are likely to overstate a vehicle’s future value when the estimate is made at a time when used vehicle values are particularly high and set to decline. A strong used car market usually prompts a leasing company to increase estimated residual values, which lowers the lease payments and makes leases more attractive for car buyers.
FIGURE 1
Manheim Used Vehicle Value Index (January 1995=100)
Source: Manheim Consulting
An example of this scenario is what happened to Volkswagen Credit’s residual value performance. Figure 2 shows residual values (as estimated by ALG at lease origination) and actual realized auction values as a percent of MSRP for leases maturing between 1997 and 2009. The rising estimated residual values for leases maturing through 2003 were consistent with the strong used car market between 1995 and 2000. Actual used auto prices fell in 2001 after September 11 2001.
5 “Record Used Auto Prices Help Existing Auto Lease ABS More Than New ABS”, Weekly Credit Outlook, May 23, 2011.
90
95
100
105
110
115
120
125
130
Jan-95 Jan-96 Jan-97 Jan-98 Jan-99 Jan-00 Jan-01 Jan-02 Jan-03 Jan-04 Jan-05 Jan-06 Jan-07 Jan-08 Jan-09 Jan-10 Jan-11
Yan Yan Vice President – Senior Analyst [email protected] Peter McNally Vice President – Senior Analyst [email protected]
9 MOODY’S AUTO NAVIGATOR OCTOBER 19, 2011
FIGURE 2
VW Total Managed Portfolio Residual Values
The rising residual values through 2003 resulted in higher residual value losses for leases that matured during the subsequent downturn in the used car market. The combination of high estimated residual values and low actual realized auction values resulted in the peak residual value loss that occurred in 2003. These losses were much higher than would have been experienced if the residual values had been estimated based on the vehicles’ average actual auction value, which is inherently more stable (Figure 3). In general, residual values based on actual auction data would more consistently produce smaller residual value losses than those based on securitized residual values. This tendency also applies to residual value losses of other auto manufacturers (Figures 4-6).
FIGURE 3
VW Total Managed Portfolio Residual Value Losses
0%
10%
20%
30%
40%
50%
60%
1997 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009
% o
f MSR
P
ALG residual Actual Auction average auction
-6%
-4%
-2%
0%
2%
4%
6%
8%
10%
12%
1997 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009
% o
f MSR
P
Loss/(Gain) based on ALG residual Loss/(Gain) based on Avg Auction
10 MOODY’S AUTO NAVIGATOR OCTOBER 19, 2011
FIGURE 4
Nissan Managed Portfolio Residual Value Losses
FIGURE 5
Infiniti Managed Portfolio Residual Value Losses
FIGURE 6
Ford Managed Portfolio Residual Value Losses
Higher Securitized Residual Values Necessitate Higher Credit Enhancement in Lease ABS
Because of estimated residual values’ tendency to lag trends in used vehicle prices and the cyclical volatility of those prices, we base our lease pool residual value analysis on the vehicles’ actual average
-3%
-2%
-1%
0%
1%
2%
3%
4%
5%
6%
7%
2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010
% o
f MSR
P
Loss/(Gain) based on ALG residual Loss/(Gain) based on Avg Auction
-6%
-4%
-2%
0%
2%
4%
6%
8%
10%
12%
2003 2004 2005 2006 2007 2008 2009 2010
% o
f MSR
P
Loss/(Gain) based on ALG residual Loss/(Gain) based on Avg Auction
-8%
-6%
-4%
-2%
0%
2%
4%
6%
8%
10%
12%
1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010
% o
f MSR
P
Loss/(Gain) based on ALG residual Loss/(Gain) based on Avg Auction
11 MOODY’S AUTO NAVIGATOR OCTOBER 19, 2011
values realized at auction over a long period of time (i.e., over 10 years). Since we assess a bond’s credit enhancement based in part on the amount required to cover the difference between the securitized residual value and a stressed market value, a higher securitized residual value resulting from the strength of the used car market will paradoxically necessitate more credit enhancement to cover potential residual value losses. With used vehicle prices at record highs, as according to the Manheim Used Vehicle Value Index, we expect that, with other factors being equal, we will require higher credit enhancement in upcoming lease ABS transactions as a result of this phenomenon.
We apply stresses to the base average auction values in order to analyze the sufficiency of a bond’s level of credit support. The stresses account for the potential volatility in future residual values and will vary over time and on a case-by-case basis according to the distribution of lease maturities, the targeted rating level, the current volatility of the used car market, the stability of the manufacturer of the vehicles in the lease pool, the vehicles’ make and model diversification, and lessee geographical concentration.
Record-Breaking Used Auto Prices Help Existing Auto Lease ABS More Than New ABS
This article originally appeared in “Moody’s Auto Navigator,” June 2011
Last month, U.S. used auto prices were the highest they have been since Manheim, the used car price tracking service, began tracking them in 1995. These high prices have positive credit implications for outstanding auto lease securitizations because they help increase over-collateralization, but they are credit-negative for future auto lease asset-backed securities (ABS) transactions because they introduce a greater risk of loss if issuers increase the residual value of leased autos.
Credit-positive for outstanding securitizations. Gains from sales of autos from maturing leases will increase over-collateralization in transactions and further cushion ABS investors from future downturns in the market. Figure 1 shows that proceeds from selling an auto at the end of its lease term have exceeded the auto’s estimated residual value, resulting in a residual value gain (shown by the green bars). The ABS uses the gains to pay down the noteholders first and then the equity holders. Paying down the noteholders provides additional protection for the remaining notes by increasing their over-collateralization.
The current strength of the market is very timely given that approximately 40% of the remaining leases (by dollar amount) in auto ABS mature in 2011 (see Figure 1). The ABS will sell the underlying autos during the subsequent several months to repay bondholders. As a result of these positive trends, we recently placed all outstanding non-Aaa (sf) securities on review for upgrade.
Sanjay Wahi Assistant Vice President - Analyst [email protected]
Yan Yan Vice President – Senior Analyst [email protected]
12 MOODY’S AUTO NAVIGATOR OCTOBER 19, 2011
FIGURE 1
US Auto Lease ABS: Average Monthly Residual Value Performance and Quarterly Distribution of Maturities
Source: Transaction offering documents and servicing reports.
Credit-negative for future transactions. Because higher prices often lead to higher estimated residual values on new leases, which reduces residual value gains and increases residual value losses, the recent price increase is credit-negative for new auto lease ABS. A strong used car market usually prompts a leasing company to increase estimated residual value, which lowers lease payments and makes leases more attractive for car buyers. The higher residual values at lease inception will result in higher residual value losses if the maturity of the lease coincides with a downturn in the used car market, which is what happened to many leasing companies in 2003.
An example is Volkswagen Credit’s residual value performance. The green bars in Figure 2 show residual value as a percentage of MSRP, as estimated by DealerTrack Holdings’s Automotive Lease Guide (ALG) at lease origination for leases maturing 1997-2009. These estimates are typically used as a benchmark for securitized residual value. Rising estimated residual values for leases maturing 1997-2003 are consistent with the stronger used car market from 1995 to 2000. Actual used auto prices (shown by the orange bars) fell in 2001 after 11 September. The combination of higher estimated residual value and lower actual residual value resulted in the worst residual value loss in 2003 (shown as the blue line in Figure 2).
0%
10%
20%
30%
40%
50%
60%
70%
80%
90%
100%
0%
2%
4%
6%
8%
10%
12%
14%
Jun-
09
Sep-
09
Dec
-09
Mar
-10
Jun-
10
Sep-
10
Dec
-10
Mar
-11
Jun-
11
Sep-
11
Dec
-11
Mar
-12
Jun-
12
Sep-
12
Dec
-12
Mar
-13
Jun-
13
Sep-
13
Dec
-13
Mar
-14
Jun-
14
Sep-
14
Dec
-14
Mar
-15
Jun-
15
Sep-
15
Dec
-15
Leas
e M
atur
ities
Resid
ual V
alue
Per
form
ance
-G
ains
/ (L
osse
s)
Residual Value Performance Quarterly Maturities Cumulative Quarterly Maturities
13 MOODY’S AUTO NAVIGATOR OCTOBER 19, 2011
FIGURE 2
VW Total Managed Portfolio Residual Value Performance
Source: The company.
The risk of residual value loss, which is the risk that a vehicle at lease maturity will sell for less than the residual value estimated at the time of the securitization, is the key risk in auto lease securitizations. The estimated residual value component of securitizations typically ranges between 60% and 75% of the aggregate pool balance (monthly payment and residual value) at closing, and as leases approach maturity this component increases to almost 100% of the outstanding balance of the lease pool.
Used Vehicle Prices Likely to Remain Elevated for Years
This article originally appeared in “Moody’s Auto Navigator,” July 2011
The unusual appreciation in used vehicle values has raised concerns of a growing price bubble. However, because fundamentals, specifically limited supply, are driving the increase, the high prices should hold for a few years, although they are unlikely to move higher. The risks to this outlook comes from the demand side, specifically the possibility of a relapse of the U.S. economy into recession. However, such an eventuality would only dampen the upward support to prices temporarily.
The most important factors that drive used vehicle prices are new vehicle sales, the number of leases written, new vehicle prices, and factors affecting consumer and business demand. During the second quarter, prices, as measured by the Manheim Used Vehicle Value Index, rose by 2.7%, bringing the increase since the end of 2008 to 30%. To put this in some perspective, prices are now 17% higher than at their previous peak in 2005.
Huge auto production cuts and low sales during the recession set the stage for the surging used vehicle prices of the past two years. This year, production disruptions related to the Japanese earthquake and tsunami are applying further upward pressure on used vehicle prices. Supply limitations will persist through at least 2013, suggesting that used vehicle prices will remain elevated at least until then, although they may not climb much further.
Used Vehicle Prices and New Vehicle Sales
As demonstrated in Chart 1, used vehicle prices are inversely correlated with new vehicle sales with a three-year lag, i.e., a weak pace of new vehicle sales, as has been the case in recent years, constrains the
-12%-10%-8%-6%-4%-2%0%2%4%6%8%10%12%
2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010
0%
10%
20%
30%
40%
50%
60%
1997 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009
Lease Termination
ALG residual (% MSRP, left axis) Actual Auction (% MSRP, left axis) Loss/(Gain) (% MSRP, right axis)
Sophia Koropeckyj Managing Director Moody’s Analytics [email protected]
14 MOODY’S AUTO NAVIGATOR OCTOBER 19, 2011
availability of used vehicles after a period of roughly three years and thus places upward pressure on prices. Not only does the sharply lower vehicle sales during the recession constrain the supply of used vehicles, but, looking ahead, the impact on sales of supply disruptions of Japanese brand vehicles could reverberate for years to come if the lost production is not made up. Since the recession, sales have been slowly trending higher, but the pace of improvement has been slow. Sales remain well below what would be considered a pace consistent with underlying population and income trends, somewhere between 15 and 16 million units.
Had Japanese supply disruptions not occurred, sales would have reached a pace of about 13 million units (seasonally adjusted annualized pace) during the second quarter; the new vehicle supply constraint combined with a faltering economy resulted in a pace nearly 1 million units lower. Based on their behavior over the past 15 years, we expect used prices to remain elevated, although they will not necessarily press higher, until the middle of the decade.
CHART 1
Used Vehicle Prices Expected to Remain High (3 Month Moving Average)
Source: BEA, Manheim Consulting
Used Vehicle Prices and Leasing
The causality between the number of leases and used vehicle prices is arguably tighter than for all new vehicle sales, since leases are written on average for three or four years and a large number of leased vehicles are returned to the dealership when the lease agreement expires. The sharp decline in leasing activity during the recession, especially by U.S. brand manufacturers, necessarily means that fewer vehicles are being returned to the used vehicle market.
Given the very low number of leases written in 2009, the number of off-lease vehicles that return to the market will reach a low in 2012, assuming an average return rate. Based on lease share data from CNW/Marketing and new vehicle sales as reported by the BEA, prior to the recession, nearly 4 million leases were written on average each year; in 2009, only 2.3 million were written. At an assumed lease share of about 24% (the share for 2011 through June), the inflow of off-lease vehicles into the market will remain below the 4 million level until 2014. Although likely not to have a very large impact, anecdotal evidence is emerging that some dealers are offering to buy out of leases early in order to gain access to scarce used vehicles.
15 MOODY’S AUTO NAVIGATOR OCTOBER 19, 2011
CHART 2
Few Off-Lease Vehicles Come Into Market
Source: CNW/Marketing, BEA, Moody’s Analytics, Manheim Consulting
Used Vehicle Prices and New Vehicle Prices
Another factor that is maintaining upward pressure on used vehicle prices is the strength in new vehicle prices, to some extent the result of less incentive spending but also the result of rising input costs. When automakers and dealers drive down the price of a new vehicle with incentives, used vehicle prices of the same model tend to decline also. The elimination of incentives then relieves this downward pressure. Statistically, all other things held equal, if new vehicle prices decline by 1%, used vehicle prices will decline by 2.8%. Incentive spending as calculated by CNW/Marketing is now at an eight-year low.
CHART 3
Used Vehicle Prices Track New Vehicle Prices % change year ago
Source: BLS Manheim Consulting
However, unlike the supply of vehicles coming into the used vehicle market, incentive spending can change rapidly. Vehicle manufacturers, particularly domestic brands have been able to reduce incentive spending because of better control of inventory. In recent months, however, inventory has been building. In addition, Japanese manufacturers are expected to increase incentive spending to spur sales of their vehicles after production returns to normal by September. While such efforts may have some impact on used prices, changes in incentive spending have a weaker impact than other factors.
Demand Conditions May Cause Temporary Troughs in Used Vehicle Prices
Demand conditions as measured by consumer confidence or the unemployment rate also correlate with used vehicle prices. However, since 2009, the relationship between macroeconomic conditions and used vehicle prices has fallen apart as supply considerations have trumped other factors. If, however,
16 MOODY’S AUTO NAVIGATOR OCTOBER 19, 2011
the U.S. recovery, which began in mid-2009, were to falter further and the economy relapsed into recession, then weak demand for used vehicles would result in lower prices. Yet such an eventuality, the probability of which is now one in four, would also mean that new vehicle sales would weaken, or at least not improve. Once the economy emerges from this setback, used vehicle prices would again rise and remain elevated for even longer than is now expected. Moreover, if the economy remains lackluster for the next few months, it is unlikely that Japanese manufacturers will be keen to make up for all of the production lost since March. This shortfall would exacerbate the low supply of used vehicles later in the decade.
Even without a double-dip recession, the expectation that used vehicle prices will remain high for several more years does not mean that prices will not fall during certain periods. For example, as gasoline prices increased earlier this year, consumers flocked to fuel-efficient used vehicles, driving their prices higher. Now that gasoline prices are receding, demand for used fuel-efficient vehicles has softened somewhat as have their prices. At the same time, the threat to prices of used less fuel efficient vehicles is fading.
Leasing’s Return Helps Vehicle Sales
This article originally appeared in “Moody’s Auto Navigator,” March 2011
In addition to the improving macroeconomic drivers, an increase in leasing is facilitating and accelerating the recovery in vehicle sales. In particular, the domestic manufacturers’ focus on leasing and generous lease incentives has played an important role in the financing of purchases. Not only are domestic manufacturers extending more lease offers but leasing is broadening to more mainstream brands.
Discounting August 2009, when the federal cash-for-clunkers stimulus led to a brief surge in sales to seasonally adjusted annualized rate of over 14 million units, in February vehicle sales reached their highest rate since mid-2008 and were up 27% from a year earlier. About one quarter of the 13.4 million units (SAAR) was accounted for by leases, which according to Edmunds.com, was the highest single month of leasing since November 2005.
CHART 1
Higher Residuals Help Drive Leasing
Source: CNW/Marketing, Edmunds.com, Manheim Auctions; *year to date through Feb.
100
105
110
115
120
125
10
15
20
25
30
35
94 95 96 97 98 99 00 01 02 03 04 05 06 07 08 09 10 11*
Leases, % of new vehicle sales (L) Manheim index (R)
Sophia Koropeckyj Managing Director Moody’s Analytics [email protected]
17 MOODY’S AUTO NAVIGATOR OCTOBER 19, 2011
Lease Availability on the Rise
Several factors support the resurgence in leasing. First, the availability of leases, particularly by domestic captives, is increasing. During the depths of the recent recession the availability of leases to all but buyers with the best credit was severely curtailed. General Motors and Chrysler just about stopped leasing vehicles for a period of time.
Strong Used Car Prices Support Leasing Economics
Second, the willingness to increase leasing is supported by the expectation that residual values－the values of vehicles at the termination of the lease－will be maintained thanks to high used vehicle prices, the result of the severely curtailed supply of vehicles of recent vintages. The higher the residual value, the lower the monthly payment on a leased vehicle and the less risk to the lender. The Manheim used vehicle price index is by far at its highest since the auction house began compiling the index in the early 1990s. More importantly, according to Moody’s Analytics, prices will be at least steady for the next few years.
Used vehicle prices will at least hold because demand for used vehicles is strengthening and the inflow of off-lease vehicles will remain below normal for some time. Even though the share of new vehicle sales accounted for by leases is rising, the volume of total vehicle sales is still far below what would be considered a pace consistent with underlying demographics and income trends. New vehicle sales will not rebound to their long-term pace of about 15.5 -16 million units until early 2013, according to Moody’s Analytics, and thus the inflow of off-lease vehicles into the market will remain lower than normal for several more years after that. Thus, when the current crop of leased vehicles comes back unto the market, the market will not be flooded with recent off-lease vehicles that depressed used vehicle prices as was the case in such periods as the late 1990s and mid-2000s.
Leasing is expected to expand for those brands with the best residual values. According to Automotive Leasing Guide, among luxury brands, the highest residual values can be found for Land Rover, Infiniti, Acura, Audi and Lexus. Among non-luxury brands such brands as Mini, Subaru, Mazda, Honda and Hyundai are enjoying the highest residuals. Therefore, the mix in the financing of these vehicles will shift more into leasing.
Low Interest Rate Environment Improves Lease Affordability
The third factor that supports the expansion of leasing is the low interest rate environment, which adds to the affordability of leases and thus increases the appeal of leases. The interest rate on a new 2-year auto loan offered by banks has declined from 7.5% last May to 5.1% in early March. Captive finance company loan rates average about 4.5%. Low rates are particularly important at this juncture in the business cycle since many households took big hits to their wealth and earned incomes during the recession. Given that replacement demand for vehicles is now growing, many of these households will be attracted to the affordable leases.
Therefore, while leasing is much more widespread among luxury brands than non-luxury brands, leasing is now being promoted as an affordable alternative for prospective buyers of non-luxury brand vehicles also. While lease penetration has increased for most segments, it has increased the most for small sedan and crossover utility vehicle (CUV) segments. The growth in segments that have not traditionally seen a lot of leasing reflects the recent increase in lease incentives, particularly by General Motors. According to Edmunds.com, 48% of Chevrolet Malibu, 38% of Chevrolet Cruze and 69% of the Buick Regal sold in February were leased.
The distribution of leasing across brands is still heavily weighted towards luxury German brands such as Mercedes-Benz and BMW. Japanese brands also have higher lease penetration than do U.S. brands.
18 MOODY’S AUTO NAVIGATOR OCTOBER 19, 2011
U.S. brands have lower lease penetration but it is slowly increasing and will likely grow further throughout this year.
CHART 2
Leasing Gains for Non-Luxury Brands % leased new vehicles
Source: J.D. Power; *January
Other Car-Buying Alternatives: Cash and Loans
According to CNW/Marketing, 24% of vehicles were leased in January, 69% of vehicles were financed and 7% were cash purchases in January. Luxury German brand vehicles are also the ones most likely to be bought with cash. Cash purchases are among the lowest for U.S. brands. Captive finance companies, such as Ford Motor Credit, have been effective into steering buyers into the financing of their vehicles. For example, more than one-half of buyers of Ford brands vehicles finance their purchases through Ford’s captive arm. Overall, in 2010, banks financed half of vehicle loans while finance companies financed the other half according to Equifax. In 2007, prior to the recession, banks accounted for 53% of vehicle financing.
CHART 3
Large Differences in Financing Across Brands Financing by type, %, largest brands sold in the U.S., Jan. 2011
Source: CNW/Marketing
Another change in financing that reflects the improving access to credit is the increase in the share of used vehicle sales that are being financed. In January an estimated 47% of used vehicles sold were
0
5
10
15
20
25
30
35
40
45
50
55
Mid CUVSmall sedanSmall CUVVanMid sedanLuxury
2011* 2009 2008
0
10
20
30
40
50
60
70
80
90
100
MB BMW VW Toy. Honda Hyu. Total Ford GM Chrys. Nis.
Lease Finance Cash
19 MOODY’S AUTO NAVIGATOR OCTOBER 19, 2011
financed, the highest in several years; six months prior the percentage was about 44%. However, to put the recent improvement into historical perspective, well over half of used vehicle sales were financed prior to the recession. The much lower rate still means that loan availability has not returned to where it was prior to the recession, especially in view of the damaged credit histories of many used car purchasers as a result of the stresses of the recessions and the housing market downturn.
MOODYS.COM
Report: SF264878
© 2011 Moody’s Corporation and/or its licensors and affiliates (collectively, “MOODY’S”). All rights reserved. CREDIT RATINGS ISSUED BY MOODY'S INVESTORS SERVICE, INC. AND ITS AFFILIATES (COLLECTIVELY, “MIS”) ARE MIS’S CURRENT OPINIONS OF THE RELATIVE FUTURE CREDIT RISK OF ENTITIES, CREDIT COMMITMENTS, OR DEBT OR DEBT-LIKE SECURITIES, AND CREDIT RATINGS AND RESEARCH PUBLICATIONS PUBLISHED BY MIS (“MIS PUBLICATIONS”) MAY INCLUDE MIS’S CURRENT OPINIONS OF THE RELATIVE FUTURE CREDIT RISK OF ENTITIES, CREDIT COMMITMENTS, OR DEBT OR DEBT-LIKE SECURITIES. MIS DEFINES CREDIT RISK AS THE RISK THAT AN ENTITY MAY NOT MEET ITS CONTRACTUAL, FINANCIAL OBLIGATIONS AS THEY COME DUE AND ANY ESTIMATED FINANCIAL LOSS IN THE EVENT OF DEFAULT. CREDIT RATINGS DO NOT ADDRESS ANY OTHER RISK, INCLUDING BUT NOT LIMITED TO: LIQUIDITY RISK, MARKET VALUE RISK, OR PRICE VOLATILITY. CREDIT RATINGS AND MIS OPINIONS INCLUDED IN MIS PUBLICATIONS ARE NOT STATEMENTS OF CURRENT OR HISTORICAL FACT. CREDIT RATINGS AND MIS PUBLICATIONS DO NOT CONSTITUTE OR PROVIDE INVESTMENT OR FINANCIAL ADVICE, AND CREDIT RATINGS AND MIS PUBLICATIONS ARE NOT AND DO NOT PROVIDE RECOMMENDATIONS TO PURCHASE, SELL, OR HOLD PARTICULAR SECURITIES. NEITHER CREDIT RATINGS NOR MIS PUBLICATIONS COMMENT ON THE SUITABILITY OF AN INVESTMENT FOR ANY PARTICULAR INVESTOR. MIS ISSUES ITS CREDIT RATINGS AND PUBLISHES MIS PUBLICATIONS WITH THE EXPECTATION AND UNDERSTANDING THAT EACH INVESTOR WILL MAKE ITS OWN STUDY AND EVALUATION OF EACH SECURITY THAT IS UNDER CONSIDERATION FOR PURCHASE, HOLDING, OR SALE. ALL INFORMATION CONTAINED HEREIN IS PROTECTED BY LAW, INCLUDING BUT NOT LIMITED TO, COPYRIGHT LAW, AND NONE OF SUCH INFORMATION MAY BE COPIED OR OTHERWISE REPRODUCED, REPACKAGED, FURTHER TRANSMITTED, TRANSFERRED, DISSEMINATED, REDISTRIBUTED OR RESOLD, OR STORED FOR SUBSEQUENT USE FOR ANY SUCH PURPOSE, IN WHOLE OR IN PART, IN ANY FORM OR MANNER OR BY ANY MEANS WHATSOEVER, BY ANY PERSON WITHOUT MOODY’S PRIOR WRITTEN CONSENT. All information contained herein is obtained by MOODY’S from sources believed by it to be accurate and reliable. Because of the possibility of human or mechanical error as well as other factors, however, all information contained herein is provided “AS IS” without warranty of any kind. MOODY'S adopts all necessary measures so that the information it uses in assigning a credit rating is of sufficient quality and from sources Moody’s considers to be reliable, including, when appropriate, independent third-party sources. However, MOODY’S is not an auditor and cannot in every instance independently verify or validate information received in the rating process. Under no circumstances shall MOODY’S have any liability to any person or entity for (a) any loss or damage in whole or in part caused by, resulting from, or relating to, any error (negligent or otherwise) or other circumstance or contingency within or outside the control of MOODY’S or any of its directors, officers, employees or agents in connection with the procurement, collection, compilation, analysis, interpretation, communication, publication or delivery of any such information, or (b) any direct, indirect, special, consequential, compensatory or incidental damages whatsoever (including without limitation, lost profits), even if MOODY’S is advised in advance of the possibility of such damages, resulting from the use of or inability to use, any such information. The ratings, financial reporting analysis, projections, and other observations, if any, constituting part of the information contained herein are, and must be construed solely as, statements of opinion and not statements of fact or recommendations to purchase, sell or hold any securities. Each user of the information contained herein must make its own study and evaluation of each security it may consider purchasing, holding or selling. NO WARRANTY, EXPRESS OR IMPLIED, AS TO THE ACCURACY, TIMELINESS, COMPLETENESS, MERCHANTABILITY OR FITNESS FOR ANY PARTICULAR PURPOSE OF ANY SUCH RATING OR OTHER OPINION OR INFORMATION IS GIVEN OR MADE BY MOODY’S IN ANY FORM OR MANNER WHATSOEVER. MIS, a wholly-owned credit rating agency subsidiary of Moody’s Corporation (“MCO”), hereby discloses that most issuers of debt securities (including corporate and municipal bonds, debentures, notes and commercial paper) and preferred stock rated by MIS have, prior to assignment of any rating, agreed to pay to MIS for appraisal and rating services rendered by it fees ranging from $1,500 to approximately $2,500,000. MCO and MIS also maintain policies and procedures to address the independence of MIS’s ratings and rating processes. Information regarding certain affiliations that may exist between directors of MCO and rated entities, and between entities who hold ratings from MIS and have also publicly reported to the SEC an ownership interest in MCO of more than 5%, is posted annually at www.moodys.com under the heading “Shareholder Relations — Corporate Governance — Director and Shareholder Affiliation Policy.” Any publication into Australia of this document is by MOODY’S affiliate, Moody’s Investors Service Pty Limited ABN 61 003 399 657, which holds Australian Financial Services License no. 336969. This document is intended to be provided only to “wholesale clients” within the meaning of section 761G of the Corporations Act 2001. By continuing to access this document from within Australia, you represent to MOODY’S that you are, or are accessing the document as a representative of, a “wholesale client” and that neither you nor the entity you represent will directly or indirectly disseminate this document or its contents to “retail clients” within the meaning of section 761G of the Corporations Act 2001.
MOODY’S AUTO NAVIGATOR EDITORIAL BOARD
Claire Robinson Senior Managing Director / Moody’s Structured Finance Group
William Black Team Managing Director / Asset-backed Securities
John (Curt) C. Beaudouin Vice President– Senior Analyst / Financial Institutions Group
Bruce Clark Senior Vice President / Moody’s Corporate Finance Group
Mack Caldwell Senior Vice President / Asset-backed Securities
Peter McNally Vice President – Senior Analyst / Asset-backed Securities
Editor: Robert Cox
