July 26th, 2022

Could This Industry Be The Next Subprime Mortgage Crisis?

When we talk about an upcoming recession, it comes down to the consumer’s resilience to higher prices.  Are the consumers still able to make their payments?  Are consumers buying discount brands, but still buying?  

The answer for right now is … both.  First, let’s look at a potential crisis in the making.

Remember 2008 when home loans were easy to get and then they were packaged and sold off and people lost track of the paper until people realized they couldn’t make their mortgage payments, then they defaulted, and then brought the market down?  

Well, a similar situation is forming in the car loan industry.  When the pandemic hit and the economy crashed, everyone was desperate for sales and you had auto loans being created that shouldn’t have.  There was a brief moment when auto prices dropped and then people used stimulus money as a down payment and their monthly income turned from let’s say $2k/month to $4k/month and no one bothered to check if that income was temporary.  

Combined with near 0 interest rates and people were getting into cars and trucks they couldn’t really afford if their situation changed.  Now interest rates are rising, costs of goods are increasing, home property values skyrocketed, credit card interest rates are up, and so on.  In other words, their situation changed.

As car values jumped throughout the pandemic, people found themselves buying an overpriced, depreciating asset.  And now it’s time to accept the punishment and that is coming in the form of a spike in vehicle repossessions.  

Could we see the car loan industry play out like the subprime mortgage crisis in 2008?  

Well, that depends.  Do consumers still have money to spend?   Are there jobs still available?  What is going on with the rest of consumer spending?

Keep reading to see the three indicators you can watch to monitor consumer spending.

There are three quick indicators that are showing consumers seem to be resilient in the face of rising prices.  Despite the growing number of defaults on auto loans, consumers keep spending money in other areas.  They aren’t pulling back their spending – but they are altering where and how they shop.  

What should you watch out for in the future?

The discount pizza indicator – Value pizza chain, Little Caesars, is on track to double its franchise growth rate in 2022, citing high demand for the $5 (now $5.55) “Hot N Ready” pizza.  Despite their food costs rising over 10%, they’ve been able to stay out in front of the competition even after having to raise prices for the first time in 25 years. Franchises have stayed afloat due to an increase in foot traffic and reduced staff from their automation initiatives like the Pizza Portal.

Speaking of foot traffic…

The discount store indicator – Discount dollar stores are seeing foot traffic at pre-pandemic levels.  Visits are up 13.2% from the first quarter of 2022, 8% year-over-year, and 20.5% from the second quarter of 2019.  

Companies like Five Below (FIVE), Dollar General (DG), and Dollar Tree (DLTR) have been growing the number of stores and expanding into new areas.  DLTR has performed the best YTD, with their stock gaining 22% and FIVE has performed the worst with a near -40% return YTD.  Can FIVE pick up momentum and finish strong with the others by the end of the year?

The discount grocery indicator – Physical foot traffic isn’t the only thing increasing during the recession.  Virtual foot traffic to discount grocery stores is also on the rise.  Direct-to-consumer markets, which can save consumers up to 30% on some grocery items, are seeing an increase in the number of products being added to their shopping carts by 22%.  While I couldn’t find any publicly traded companies in this space, there are a few raising lots of cash and are waiting in the wings for the market to become more favorable before going public.  

So by these measures, the recession may not be so bad.  Jobless claims are on the rise, but still low and people keep spending money, which only further complicates the pesky inflation problem we’re seeing.  We do need to keep an eye on the auto loans.  If vehicles are being repossessed, that means defaults on loans are coming.  The good news is that a default on a $70k auto loan is a little easier for the banks and the market to digest than a $500k+ home loan that we saw in 2008.

If you have any questions, comments, or anything we can help with, reach us at any time.

Email: [email protected]

Phone: (866) 257-3008