New-Car Affordability Idles in September as Incomes Languish
October 19, 2016
The September 2016 Auto Buyer’s Affordability Index (ABAI) is 59.0—down from 59.2 in August. Both the light-vehicle average transaction price (ATP) and median household income (MHI) increased incrementally. However, the ABAI drifted downward as the average price increase ($173, 0.6 percent) outpaced the affordable price gain ($39, 0.2 percent). An ABAI of 59.0 indicates that a prudent, median-income household can only afford 59 percent of the new-car average price.
After rising rapidly in 2015, the affordability index has stalled at around 59 for most of 2016. The lack of improvement this year is largely due to a stagnant MHI—up only $92 since February. By comparison, the MHI rose $1,377 last year through September and $2,329 for all of 2015. Fortunately for consumers, prices have been relatively flat this year as well.
Buying power (affordable price change minus the ATP change) decreased $134 in September due to the ATP increase, further eroding gains from earlier this year. Buying power has increased by only $275 through the first nine months this year after gaining $2,003 in 2015. (See figure below.)
Price Pressure Continues
New-car prices remain under pressure due to plateauing new-car sales and an increase in the late-model used-car supply. However, these pressures have been somewhat muted by a continued, supportive auto finance environment.
New-car sales forecasts universally predict, at best, a minimal increase this year—the smallest gain since the great recession. Through September, year-to-date sales are up by only 48,000 units (0.4 percent). This comes after six years of growth in excess of 5 percent. With little overall growth to be had, incentives are on the rise as automakers push for additional market-share.
In a forecast earlier this year, NADA Used Car Guide indicated that a significant increase in the supply of nearly new vehicles (+800,000) would likely lead to a decline in used car prices. According to the October NADA Used Car Guide, wholesale prices of vehicles up to eight years in age fell by 3.6% in September, the largest decline of the year. In addition, the Used Vehicle Price index fell to its lowest level since March 2011. Moderating used-car prices will continue to entice potential new-car buyers, putting additional pressure on new-car prices.
Fortunately for automakers, a favorable auto financing environment continues to mute the effects of price pressure—for now. The average monthly payment amount, loan term, and loan amount remain at record highs, and interest rates continue at record lows. However, some warning signs exist. For example, according to a new report from Fitch Ratings, U.S. auto loan and lease credit performance will likely continue to deteriorate throughout this year and into 2017.
Affordability Improvement Depends on Income Growth
Given the current state of new-car pricing, affordability should improve as incomes increase. However, income growth has been anemic thus far this year. The potential for near-term income improvement is uncertain, give the current, mixed U.S. economic outlook.
Regardless of the state of overall affordability, each new-car buyer can preserve her own financial health by first ensuring that the purchase is affordable. Requisite Press recommends that consumers apply the 20-4-10 auto financing rule (see below) to more easily assess the affordability of a new-car purchase. Consumers can verify affordability throughout the car-buying process with AffordCheck℠, a free online tool based on the 20-4-10 rule. AffordCheck℠ can be used to determine an affordable price range, and it can also be used to assess specific offers as they are received.
20-4-10 Auto Financing Rule
The 20-4-10 auto financing rule consists of a minimum 20 percent down payment, a maximum 4-year loan term, and monthly payments of no more than 10 percent of gross household income (including insurance). The rule is widely recommended by personal finance experts to maintain financial security, avoid excessive interest costs, and preserve future investment opportunities.
The affordable monthly payment (including principal and interest) is calculated by taking 10 percent of the U.S. monthly median household income and subtracting a U.S. average monthly insurance premium. The affordable price is then calculated using the affordable payment, along with a U.S. average 48-month auto loan interest rate and a U.S. average sales tax rate. A 20 percent down payment is assumed. The ABAI is calculated by dividing the affordable price by the average transaction price and then multiplying by 100.