Jesse Toprak, chief analyst for Autonomy, describes the current state of the automotive industry as unusual and unprecedented.

“I don’t think anyone has ever seen the trends we are seeing today in this industry,” says the long-time automotive industry analyst whose background includes time with Edmunds, TrueCar and Cars.com.

The extremely high resale values of used vehicles resulting from tightened supply of new vehicles, rising inflation and interest rates, all combine into a perfect storm that “culminates in extremely high costs of owning or operating a vehicle,” the 25-year industry veteran concludes.

New vehicle sales are one bucket of sales and used vehicle sales fall into another. Most years, U.S. dealers sell more used cars than new. “Pre-pandemic we were selling around 17 million new vehicles and 45 million used cars,” he says. “Today, both buckets are less. We’re probably going to be below 50 million [for both].”

With no replacements available, people are holding on to their vehicles. A critical shortage of semiconductor chips, wire harnesses and other key components has constrained new vehicle supply at a time of elevated consumer demand. Consumers now turn to the used vehicle market to meet their vehicle needs.

The situation has driven up used and new vehicle prices, with both hitting record highs. J.D. Power and LMC Automotive predict average new vehicle transaction prices will shatter records in August, hitting $46,259. Used vehicle prices fare little better with an average transaction price of $33,000, reports AutoWeek.

Along with these trends come higher-than-ever costs of car ownership, with Autoblog reporting the average household pays $629 a month to own a car. Autoblog breaks this down as $433 per car loan and $196 for car insurance. But these figures are low. Cox Automotive reported the average monthly payment for a new car reached a record $733 in July, up 0.9% from June and up 15% from the same time period in 2021.

Interest rates also are rising as the Federal Reserve is forecasted to increase the prime rate by another 50 to 75 basis points in September, after increasing it by 2.25 basis points over the last four months. This rate mostly affects credit cards, home equity lines of credit, and mortgages. But it also has driven up auto loan rates to 4.8% on new vehicles and 8.1% on used vehicles. For vehicle owners with credit scores of 600 or below, the rate has hit 17.3%.

“These costs will get worse,” Toprak predicts. “When we think they can’t get any higher, they will go up. I have never seen so many models selling over MSRP. Normally, that only happens when a hot new model enters the market. Now it’s almost commonplace to pay over sticker price.”

Where prices go directly depends on supply shortages, which Toprak says are easing a bit. “Still, there is so much pent up demand and backed up orders. I believe there will be no relief through 2023,” he says. “Beyond that will be a real wildcard.”

For now, vehicle values hold steady, but if resale values plummet, the industry could deal with something similar to the mortgage crisis of 2008—only with vehicles. “In 2008, people were over-extended in their loans versus the value of their homes and the whole thing crumbled. I’m not forecasting this will happen. I’m just saying it is a danger and if I were a financial institution, I’d be keeping an eye out for that.”

DAWN OF DEFAULTS?

“Auto finance is like a pressure cooker right now,” Toprak says. “If everything goes great, we’ll have a fine cooked meal. If not, things might blow up.”

The true danger in a recession with record inflationary pressures is that middle-class people with average to lower credit ratings will be unable to afford car payments. A person with a credit score of 781 might secure a loan at 2.4% rate, but those with credit ratings below 500 might pay 17%.

“Right now, employment is high despite things being more expensive,” he says. “People are working and able to make their loan payments. But it is a fragile equilibrium. It really depends on the ability to sustain employment at all levels. It depends on the stock market rising and consumers being able to make multiple payments at record interest rates. It’s a fragile balance that could easily get out of whack.”

EASING INTO EVS

“The automotive industry is making transformative changes at a pace that’s unprecedented in the last several decades and consumer preferences are shifting toward electric vehicles as an influx of models enter the market,” Toprak says.

But not everyone can afford these vehicles. “The sticker prices for EVs are absurd and the waiting times are extremely long,” he says. “A Ford Lightning has a three-year waiting list.”

Subscription platforms makes it possible for the average American consumer to afford an EV. In fact, consumers can get into a Tesla Model Three subscription for about $490 a month, including maintenance and registration.

It’s also easier for consumers to qualify for a subscription than to qualify for a loan or lease if they have poor credit. Tesla requires a credit score of 720 for a lease. A subscription is a better option for consumers with poor credit or little to no credit history.

“Consumers often cannot qualify for a loan because they haven’t built up any credit,” he says. “Subscription payments can improve a consumer’s credit because the payments show up on their credit score.”

“We are in the very early stages of vehicle subscriptions, but they make sense,” he adds. “We rent everything nowadays, from movies to music. The lack of ownership gives flexibility and adds in affordability.” Toprak predicts EVs will become more affordable in the future as OEMs introduce more models. The tax credits also will bring prices down.

“The difficulty is getting as many cars as we can,” he says. “But a vehicle subscription is a win-win. Consumers get into the vehicles they need with less obligation. It works for manufacturers too because they sell more vehicles through the subscription service.”

DEALER STEPS

“Dealers that take care of their customers will emerge from this unusual time, OK. But there is a risk if they take advantage of the market and sell vehicles way over MSRP, Toprak warns.

“Customers are unlikely to come back if they realize they way overpaid,” he explains. “Dealers must keep prices in check.”

Toprak recommends dealers remember there are customers who need vehicles and cannot afford today’s higher prices. Improved EV education and subscription services provide a new opportunity for dealers, he concludes.

Dealers can add EV chargers and educate sellers about the innovative technology to move consumers toward EV purchases or subscriptions.

“There is an opportunity to work in new services, like vehicle subscriptions, to get customers into electric vehicles,” he says. “Partnering with a subscription service is a good idea.”