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COMMENTARY

There's no subprime bubble in China's car loans

Beijing

SLOWING car sales and tightening credit look like a toxic combination for China's car-financing industry, which has exploded in the past few years.

Concerns that the sector is heading for a subprime-like meltdown may be overblown, though. Sales in the world's largest car market rose 2.3 per cent in June from a year earlier, data showed last week. While faster than several analysts expected, growth decelerated from an 8 per cent pace in May. Compared with the previous month, deliveries fell about one per cent in June.

The cooling coincides with Beijing's quest to deleverage the financial system, which has led to tighter liquidity, reduced access to credit and - in theory - squeezed consumer discretionary spending.

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In a report last week, analysts at Sanford C Bernstein linked the weakness in car sales to a slowdown in peer-to-peer lending, pointing to "the deflation of what amounts to a subprime (P2P) auto bubble".

The relationship between car sales and credit in China is less clear than in other countries. Like all forms of debt in the world's second-largest economy, car loans have expanded rapidly. About 40 per cent of the annual four trillion yuan (S$816.6 billion) of car retail sales are financed, a penetration rate that has more than tripled from 12 per cent in 2011. 

But that is still low compared with a global average of 70 per cent and the US rate of about 80 per cent. China's car loans are concentrated in higher-end or luxury vehicles, accounting for about 45 per cent of sales versus 34 per cent for mid-range models, according to research firm JD Power. 

More than half of BMW AG's sales in China are on credit, for instance, according to Goldman Sachs Group Inc. A majority of loans in the 1.4 trillion yuan market are made by carmakers' captive finance companies, with dealers and banks accounting for most of the rest. These units pack loans into asset-backed securities, issuance of which totalled 16 billion yuan in the first quarter. The delinquency rate was around 0.1 per cent, despite higher interest rates. 

Other channels such as P2P lenders account for a much smaller portion. As at June this year, loans from these online platforms totalled about 17 billion yuan, or 9.4 per cent of the broader Internet lending industry, according to P2P lending data site wdzj.com. Much of that was concentrated in the eastern province of Zhejiang, a relatively wealthy area. Chinese car-financing products tend to have lower loan-to-value ratios and shorter terms than in other mature markets, creating a buffer against defaults.

Financing has higher margins, meanwhile, generating about 20 per cent of operating profits for some companies while accounting for less than 2 per cent of revenue.

Take China Zhengtong Auto Services Holdings Ltd, a Beijing-based and Hong Kong-listed dealership that specialises in luxury cars. The company has increased its exposure to car credit, taking secured borrowings on to its balance sheet that are mostly loans made by the finance arms of car manufacturers. Zhengtong's profit rose 71 per cent last year as its financial services business assets - or loans - grew 64 per cent to about seven billion yuan.

Car buyers may start to default in greater numbers eventually, but even if delinquency rates do spike, there is less risk of a self-feeding spiral such as the one that triggered the US subprime mortgage crisis a decade ago. That is because, unlike the value of houses in a locality, the sale of one dud car does not affect the price of another, especially when the market is small. 

In mature markets, for every new car sold, three used ones are traded. The ratio in China is about one to 0.4. 

Still, slowing deliveries reflect other factors including manufacturers' inventory management and the withdrawal of government subsidies such as grants for building plants and tax incentives for consumers. The trade war with the US will also alter the landscape, attracting new entrants and affecting pricing.

If China's car market is living on borrowed time, loans will not be the only culprit. BLOOMBERG