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The three real reasons new car sales are booming

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If you follow the news from the auto industry, you might wonder who spiked the punchbowl. Last month, automakers sold 1.5 million new vehicles, the highest rate in years, and most industry forecasters expect sales will soon return to the level they last touched before the 2008 recession of 16 million vehicles a year.

And yet the rest of the economy seems to be in a far less partying mood. The U.S. Census reported today that the average family's income has fallen about 8 percent since 2007 and showed no sign of growth last year. (Adjusted for inflation, today's average family earns as much as one did in 1989.) Since January 2009, fewer than 300,000 full-time jobs have been created and 9.5 million Americans have left the work force. And while automakers have launched more than 20 new models this year, only two — the Toyota Corolla and Chevy Silverado — rank among the top 10 sellers.

As the saying goes, "The money has to come from somewhere." Before the 2008 recession, the money came from housing; it wasn't a coincidence that Ditech.com was owned by General Motors' lending arm. In the case of the latest new car sales boom, the money has been flowing from three other sources.

Retirees

This group represents a new car dealership's dream of a customer. Why? Because most have lifetime fixed incomes, making them far easier to finance.

There are over 41 million retirees now receiving Social Security, with nearly two million added to their ranks over the past five years. This portion of our population has helped recently boost the average age of new car buyers from 46 in 2001, to 55 in 2011 with many models now reporting a year-by-year increase in buyer's age. This goes in lockstep with our graying population.

Cheap loans

That older customer can now finance a vehicle for as long as 10 years with interest rates that are often lower than two percent for customers with good credit and a stable income.

At no time in the past has the industry offered such low rates over a long period of ownership. It makes sense, though. Retirees, in particular, mostly have the added comfort of a stable income while those in the 55- to 64-age group now represent the most active buying crowd with 1 out of every 16.4 drivers opting for a new vehicle purchase.

The longer-term loans also have a dramatic impact on what new car customers are actually buying at the dealerships.

2014 Toyota Camry 2014 Toyota Avalon
Purchase Price $25,000 $38,000
Less Down Payment $2,000 $2000
Amount Financed $23000 $36000
Term 5 years 10 years
Interest Rate 3.9%* 3.9%*
Monthly Payment $422.54 $362.77

Thanks to the Federal Reserve cutting rates, the average four-year car loan from a bank now carries an interest rate of 4.1 percent — the lowest since the Fed starting tracking such numbers in 1972.

The five-year loan, which was the standard term for many new car purchases back in the pre-recession era, is now quickly becoming a memory with car loans now often running beyond seven years, even out to a decade. This not only helps lower the monthly payments, but longer financing terms and low interest rates have helped push the average new car purchase prices industry-wide from $28,350 in 2008 to $31,252 for August 2013.

Lower standards for borrowers

Within the next 24 months, millions of Americans who have either declared bankruptcy or suffered severe credit delinquencies will see their past debts drop from their credit reports.

New car dealerships are wasting no time trying to get these soon-to-be former bad credit customers into their showrooms. Sub-prime customers, especially those with once spotless credit, have remained a lucrative target for car companies even throughout the darkest days of the recession.

High interest rates and the necessity of a car for most Americans have helped the sub-prime market remain strong and consistent. It has also yielded an unusual partnership.

Finance companies have now been able to partner with Wall Street by combining these loans into ‘automotive asset backed securities’ , and selling them to buyers the world over who are seeking high returns.

The auto debt of today is now a hot commodity. Automotive asset backed securities have exploded over the past four years from a low of $2.9 billion in 2009, to $14.7 billion so far in 2013 according to Deutsche Bank AG. Sub-prime car loans have advanced nearly 25% from a year ago, while the interest rate for these loans have held steady at 14%.

Manufacturers can now more easily sell off consumer loans and use these proceeds to make more loans to credit challenged customers. With new car dealers now trying to appeal to these sub-prime customers with everything from "Bad credit? No problem!" pitches to rent-to-own programs, the not-good-enough customers of the past are rapidly becoming the new car buyers of today and tomorrow.

For Every Boom, There Is A Bust

Is this a good thing? Well, if you want to buy an older car and remain debt-free for many years afterward, the next few years may become the best market ever to make that a reality. Despite record high prices, more consumers can afford a new car or truck — although those longer loans could create hangovers for all sides in a few years. And based on history, the party will keep raging until someone takes away the punchbowl.

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