Do you remember this headline? Ford: 0% financing for less than perfect credit

In August 2006, Ford Motor credit offered zero-percent financing for up to six months in an effort to clear its inventory of 2007 models and reverse the decline in its sales. Sounds like a teaser rate to me. And oh yeah, they made a big deal about “helping” subprime borrowers get that car they needed, deserved wanted as part of the American Dream of pulling that shiny new car they couldn’t afford into the garage of the house they couldn’t afford. But remember, Ford’s deal was only a year ago (before it became bad PR to mention subprime programs). This spring, as the subprime mortgage crisis started to become more familiar, the big auto lenders made a great deal out of why they are different than mortgage lenders and why we shouldn’t worry about their loans. That alone makes me worry.

The reality is that a big percentage of US autos are wrapped up in this mess. Eight days after 9-11-01, GM put out its “Keep America Rolling Plan and then Ford and Chrysler followed within days. While these programs were originally intended to expire in a month, they have been repeated for the past six years. Some of the deals were as low as 36 months and others were 60 or 72 months.

The auto lenders will point to these long maturities as reasons to not be so worried. After all, as they tell you, auto loans are fixed rate and don’t face the same threat from resets like ARMs. Whatever! A loan is a loan is a loan. And when the borrower cannot pay his mortgage he’s probably struggling to pay these wonderful “no money down, interest free” loan payments.

Consider this statement from Daniel Jarvis, a spokesman for Ford Credit “Three out of four would qualify, but only one out of four enter into a zero-percent financing contract. That’s because of the cash incentives in the marketplace right now.” Okay, let’s evaluate that. The people who have the money and don’t need the loan, take the cash incentives. That just leaves a terrible adverse selection problem where the 25% who don’t have the money, need to take the financing. So rather than having 75% of the portfolio of zero-percent financing be stable borrowers, there is a good chance that the majority of the people who took the loans were financially stretched to begin with.

And let’s not forget that the maturity dates on the original 60-month zero-percent loans from 2002 and 2003 model years are starting to come due. What will these people do now? What kind of residual value will be left on these cars to serve as a downpayment on their next vehicle? What financing will they be able to get that keeps their new payments as low as the old ones?

Here’s an excellent article on the state of subprime auto loans. I know the auto lenders want us to believe that their portfolios and the securitized products they have sold are not as toxic as the subprime mortgages. I hope they are right but it just doesn’t make sense.