Automotive credit scoring is changing.
Given the shakeup in the financial world and other factors, many of the truths that were held as key indicators of creditworthiness have shifted dramatically.
These factors have made obsolete what were regarded as key indicators of creditworthiness as recently as three years ago.
By looking at how these factors affect credit scoring, automotive financers can operate profitably in the new world of credit financing and identify new criteria for creditworthiness that can help them navigate the waters.
The three biggest factors impacting the validity of credit scoring today are shifting demographics, changing loan-payment priorities and buyer preferences. Let’s look at each:
Shifting Demographics. From buying habits to payment habits, to life priorities, a new generation of car buyers changes everything in terms of how automotive financers need to evaluate credit risk.
This is especially true of Generation Y, primarily people in their 20s who are looking to finance their first car after coming of age during a protracted recession.
As a result, they are cautious buyers, and a majority of them conduct most of their car-shopping research online. Most importantly, the car itself means something different to them, which leads to the second factor.
Changing prioritization. Once upon a time, the mortgage payment was the sacred cow of creditworthiness. Having a mortgage validated that an individual was a responsible and creditworthy borrower. It also meant that the borrower’s No.1 payment priority was the mortgage.
Today, neither of those two things hold true. As the housing market crumbled over the past few years, we saw the rise of delinquencies and defaults on mortgages, making them a less-reliable indicator of creditworthiness.
More importantly, during the recent downturn we saw for the first time borrowers making car payments their top payment priority. The ability to pay a mortgage, therefore, no longer serves as the best predictor of whether or not a borrower will make a car payment.
Buyer preferences. Cars are lasting longer than ever before, and people are driving the same car for a longer period. The average age of cars on the road today is nearly 11 years, higher than it’s ever been.
Consequently, both borrowers and lenders are willing to finance cars for longer durations. However, longer-term financing presents a whole different set of considerations.
For example, smaller payments may mean the borrower will be able to more easily meet the payment obligation, but extended terms also expose lending companies to the possibility that a borrower’s financial risk may change significantly over the life of the loan.
With the industry still in the midst of evolutionary change toward a new credit-scoring model, it is unlikely that a definitive way to measure creditworthiness will be available soon. However, automotive lenders can make more informed financing decisions by:
- Focusing on the indicators of creditworthiness that still hold weight today collateral, equity and disposable income.
- Using recent loan portfolio performance as a guideline for adopting current terms and conditions.
- Implementing a technology solution that can adapt to change by using flexible configuration models and customizable workflows.
- Staying tuned to the economic and financial events impacting their specific markets.
Understanding changes in the marketplace and borrower behavior in particular, coupled with the ability to adapt to those changes will aid automotive-lender success.
Pete Radike is the product manager of originations for lending solutions at Fiserv.