The Bank of Israel is questioning the banks' ability to foreclose on encumbered vehicles. In a document published today, the Bank of Israel instructed the banks to calculate the value of cars as collateral at only 60% of their value according to the secondhand vehicle price list. In addition, as the vehicle ages, the ratio of the value of the collateral to the price list value will fall, and vehicles over five years old are not to be considered as real collateral at all for accounting purposes; their value as collateral will be zero.
The Bank of Israel is thereby pulling the rug from under the assumption that credit for vehicles is low-risk because it includes collateral. In contrast to collateral such as real estate, the value of a car depreciates with time, and its real value is difficult to estimate, certainly at the present time.
The instructions were published in a Bank of Israel letter on the subject of credit for the auto industry. It appears that the Bank of Israel is troubled by the expansion of the auto market in Israel and how the banks are measuring their risk in this sector, and has therefore required the banks to conduct stress tests for their vehicle credit portfolio in order to gain a better understanding of the risk incurred in the loans, and whether they have made adequate provisions for this instrument. If the banks have not, they will have to increase their provision.
"The Israeli vehicle market has expanded substantially in recent years, and the trend is still towards growth. Given indications of an increased risk of some of the borrowers in the market (particularly leasing companies), it is important to verify that the underwriting and controls procedures at the banks and credit card companies provide an appropriate response to the rising level of risk," the Banking Supervision Department writes.
The Bank of Israel stresses that the volume of credit for purchasing cars is a relative small NIS 12 billion, less than 10% of the banks' retail credit portfolio. The banking system's exposure to the sector, including credit for companies in the sector, is estimated at NIS 40 billion. In view of the expansion in this market, supported also by a steep rise in credit for the purchase of new vehicles, the Bank of Israel is asking for more comprehensive information about the credit risk in this sector. In addition to stress tests and risk analysis, the Bank of Israel also attached a document of "accepted practices for financing the auto sector at the banks." This document is attached as a nonbinding recommendation, but when the regulator "recommends" something, it is usually a way of hinting that the banks should adopt the recommendations before a binding instruction is issued.
After analyzing the various scenarios in the portfolio, the Bank of Israel is demanding that the bank's management or board of directors discuss the results and consider the need to revise its commercial credit policy for the auto industry and consumer credit, tighter controls for important borrowers, and checking whether, in view of the results, it is necessary to increase provisions for credit losses in this sector (a general provision).
In the financial stability report published by the Bank of Israel last month, it devoted an entire section to this subject. The Bank of Israel also emphasizes in its letter published today that credit for the auto sector does not constitute a systematic risk, because the total exposure of the financial system to the sector is less than NIS 40 billion, while the banks' total credit portfolio exceeds NIS 900 billion. Still, the Bank of Israel is troubled by the sharp increase in credit for this industry.
The loans for vehicle purchases are ostensibly low-risk, because there is collateral for them - the purchased vehicle. The banks also say that many players have marked this sector as a target for growth, which has pushed interest rates on the loans down to prime plus 0.25-0.5% - in other words, only 2%. Although the spreads have recently risen towards prime plus 0.75%, this is still a very low price, and with all due respect to collateral, it is not certain that such interest rates reflect the risk in loans of this type.
The prices of used cars are being pushed down by excess supply, which is eroding the value of the collateral. Therefore, if the rate of insolvency in these loans rises, it is very doubtful whether the concerns that granted the loans will be able to easily foreclose on a large number of vehicles at their list price. While car loans are only a small part of the banks' credit portfolios, they account for a considerable proportion of the credit card companies' credit portfolios – 10-30% of the portfolio (about NIS 2 billion).
Published by Globes [online], Israel Business News - www.globes-online.com - on July 10, 2017
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