Whether the US economy is currently in a recession or is rapidly approaching one continues to be a debate for economists. Some speculate that we are already in a recession that will end quickly, and in a soft landing. Others think there are much rougher waters ahead.
Labor market and consumer spending metrics continue to be strong but there were some alarming trends in credit risk in late 2022:
Increased Delinquencies Across Verticals
With the exception of student loans, where delinquencies have been mostly non-existent because of pandemic-era deferral programs, delinquency numbers are trending up. For credit cards, the uptick is 50% year over year, which seems steep. In fact, the rates are creeping up above the average pre-pandemic rates, but they are “still within the pre-pandemic trendlines,” according to 2nd Order Solutions’ 2022 Q4 Credit Risk Review.
Delinquencies on secured loans, like auto and mortgages, are rising slowly, and continue to be below pre-pandemic levels, however, consumers are contending with higher interest rates especially for auto financing. According to the Credit Risk Review, there were a record number of $1,000+ monthly payments for car loans in Q4 2022.
It’s also concerning that, even though consumers are not dealing with student loan delinquencies, the population of consumers with student loans is experiencing a “stark increase in delinquencies” across other asset classes. With the student loan deferral program set to end in June 2023, it will be critical to monitor how those consumers pay their other debts, like credit cards and auto loans.
Prepayment Rates are Down
Both auto and personal loan prepayment rates are down significantly. For both verticals, lower income consumers and subprime borrowers are showing the largest decline, with rates below pre-pandemic levels.
This is concerning because, according to the Credit Risk Review, prepayment rates are a bellwether of consumer financial health. Not only are the rates down, but they are dropping rapidly. It’s an indicator that, while consumers can currently make their payments as agreed, that may not last long, and could lead to even more delinquencies.
Consumers are Borrowing More
The skyrocketing rise of home values in the last few years led many consumers to leverage their home equity in order to combat inflation and pay down other outstanding balances. In Q3 2022, there were 317.6K HELOC originations. Compare that to Q3 2021, where there were 210.2K HELOC originations. There was also a record rate of card origination volumes in Q4 2022, although the rates fall in line with pre-pandemic trendlines. Consumers are consistently relying more heavily on borrowing than in the last few years, and the increased rate of borrowing is indicative of financial stress for the average consumer.
How these trends affect collections & recovery isn't certain, but one thing is clear. If you’re not preparing now for an increase in charged-off collections, you will be caught off guard in the next 12-24 months. Check out our guide to third-party collections here.