Published May 09, 2017

The Father of Subprime Auto Loans Is Cashing Out

Don Foss is walking away from his empire.

You’ve probably never heard of Foss. But he’s likely the world’s richest used car salesman. He was also a pioneer of the subprime auto loan market.

These are car loans made to people with bad credit. Today, the subprime auto loan market is worth more than $175 billion. But this market didn’t even exist in the 1960s.

Back then, car companies like General Motors and Ford would only lend money to folks with good credit. It was simply too risky to lend money to people with bad credit.

But Foss saw opportunity where others saw only danger. He started selling cars on credit to people with shaky finances.

Was it risky? Sure. But Foss could charge these customers sky-high interest rates. No one else was lending money, after all.

Then, in 1972, Foss launched Credit Acceptance (CACC) to handle financing and debt collection for his growing used car empire.

Today, Credit Acceptance is a major player in the U.S. subprime auto loan market. It’s worth $4.2 billion. And business has never been better.

• Last year, Credit Acceptance did $872 million in sales…

That’s 16% more than it did in 2015, and quadruple what it did a decade ago.

And yet, Foss wants out.

In January, he stepped down as chairman of Credit Acceptance. A month later, he sold $128 million worth of shares in the company. According to Bloomberg Markets, Foss wouldn’t say why he sold his shares.

To be fair, Foss has been at the top of the subprime auto lending business for five decades. If anyone’s earned the right to hang up their boots and relax, it’s him.

Still, you have to wonder why Foss would step down now. After all, Credit Acceptance is coming off its best year ever.

In short, his departure raises serious questions about the health of Credit Acceptance. But that’s certainly not the only reason to be nervous about the company.

• Sharks are circling the company…

Right now, 48% of Credit Acceptance’s outstanding shares are “short.” This means a lot of people are betting that the stock will crash.

According to Bloomberg, Credit Acceptance is the third most shorted stock in the Russell 1000 Index, which tracks large and midsize companies.

Other major subprime auto lenders are also flashing danger…

• Ally Financial (ALLY) just reported a 17% drop in its first-quarter net income…

Ally, one of the biggest subprime auto lenders, blamed the bad quarter on a 6.7% decline in used car prices.

Santander Consumer (SC), another big subprime auto lender, saw its profits fall 31% last quarter. Santander has also cut ties with more than 800 car dealerships since 2015 due to “performance-related issues.” And it just reported a 21% drop in subprime loan originations.

Even major lenders are pulling out of the fragile auto loan market.

Last month, Wells Fargo (WFC) reported a 29% decline in its auto loan originations. That was the lender’s biggest drop in over five years. Wells Fargo is the U.S.’s largest bank.

• If you’ve been reading the Dispatch, you know why this is such a big deal

If you’re just tuning in, here’s what you need to know.

According to Business Insider, subprime auto loans are now a $179 billion market. That’s about 16% of the overall auto loan market.

Not only that, subprime loans are also the fastest-growing segment of the auto loan market.

According to Experian, the subprime market grew 8.6% last year. The “deep subprime loan” market, which is made up of the riskiest subprime loans, grew 14.6%.  

That’s more than twice as fast as the prime loan market grew last year. Prime loans are loans issued to people with strong credit.

In other words, subprime loans have become a major pillar of the auto loan market. But that pillar is starting to give way.

According to Fitch Ratings, annualized net losses on securitized subprime auto loans have surged more than 10% since late last year. They’re now at the highest level since February 2009, which was near the height of the last global financial crisis.

• If subprime auto loans continue to soar, the whole market could implode…

Oddly enough, this doesn’t bother many people.

That’s because the auto loan market is “only” a $1.2 trillion market. It’s about a tenth the size of the mortgage market.

Because of this, many investors don’t think it could possibly set off a major financial crisis like the subprime mortgage market did a decade ago. But these people aren’t seeing the big picture.

• You see, the U.S. doesn’t just have too much auto debt…

It has too much debt, period.

Today, total household debt stands at $12.58 trillion. That’s just shy of the $12.68 trillion record set in 2008. But that record won’t stand much longer.

After all, total household debt surged by $460 billion last year. That’s the biggest one-year jump in nearly a decade.

Let’s not forget U.S. corporate debt, either. That has surged over 39% since 2010.

Corporate debt as a percentage of gross domestic product (GDP) – a measure of annual economic output – is now at the highest level since the 2008–2009 financial crisis.

Then there’s federal government debt. That’s at $20 trillion and counting. That’s more than three times as much debt as the U.S. government had in 2000.

In short, the auto loan market could become the first pillar of the credit market to collapse. But it certainly won’t be the last.

• The good news is that there’s still time to prepare…

Here are two ways you can shield yourself from the auto loan crisis…

First things first, get out of car stocks. This includes General Motors (GM), Ford (F), and other major carmakers. You should also avoid major subprime auto lenders like Ally Financial and Santander Consumer.

You should also own physical gold if you don’t already. Gold, as you probably know, is the ultimate safe-haven asset. Investors buy it when they’re nervous about the economy, stock market, or financial system.

If the auto loan market continues to unravel, we could see the same sort of problems in other corners of the credit system. This will almost certainly cause the price of gold to skyrocket. You’ll want to own gold before that happens. 


Chart of the Day: Avoid This Stock at All Costs

Ally Financial is approaching a critical level. 

Today’s chart shows the performance of Ally Financial since last August. You can see the stock has plunged 16% since mid-February. That’s a huge decline for such a short period.

The good news is that the stock has strong support at around $19. You can clearly see this support line in the chart below. 

The bad news is that ALLY would likely enter a downward spiral if it breaks through this support line. So keep a close eye on this stock if you consider yourself a speculator. It could be a great short candidate if it closes below $19.

Until then, avoid the stock at all costs.