Ally's share price falls 15% as credit problems mount

Ally Financial said Tuesday that more borrowers had difficulty repaying their auto loans over the summer, causing the company's stock price to plunge 16 percent.

“Our credit problems have worsened,” said Chief Financial Officer Russell Hutchinson at a Barclays conference.

Late payments on Ally's auto loans rose 20 basis points more than the company expected in July and August, Hutchinson said. And as more borrowers fell into serious default, the company wrote off more loans than expected. Net charge-offs on auto loans rose 10 basis points more than Ally expected.

“We are obviously dealing with a group of borrowers who are already struggling with the cost of living and are now struggling with a deteriorating employment situation,” Hutchinson said.

The unemployment rate in the US has risen from 3.7% at the beginning of 2024 to 4.2% in August. The slight weakening of the labor market prompts the Federal Reserve to Focus on interest rate cuts.

Ally, which has long focused on used car loans, was a darling of equity investors during the COVID-era used car boom. Investors began to get angry at Ally when the good times fadedbut the company's relatively strong financial performance over the past 18 months earned him goodwill.

Given investors' positive expectations, “they will be wondering” whether the negative surprise will have further painful consequences, Jon Arfstrom, an analyst at RBC Capital Markets, wrote in a note to clients on Tuesday.

“All of this seems manageable, but higher credit costs and a lower margin will put pressure on the numbers in the short term and this is a disappointment for the company,” Arfstrom wrote.

Hutchinson, Ally's CFO, said the rapid pace of Fed rate cuts that the market is currently expecting could put pressure on Ally's interest margin.

The $193 billion asset management company has about $60 billion in floating-rate assets, the value of which is immediately adjusted downward when interest rates fall. The effect should reverse over time, Hutchinson says, since Ally can lower the interest rate on deposits without too much difficulty.

The Detroit-based company began to become more cautious of the auto market in early 2023 and said it would scale back its lending and focus more on borrowers with high credit scores.

Hutchinson said Tuesday that the “cut” appears to be paying off, as loans Ally made in 2023 continue to outperform those made in 2022. Still, he noted that less risky borrowers “face a different macroeconomic backdrop” in 2023 and it may be harder to maintain year-over-year outperformance.

One benefit is that Ally has raised its loan pricing during and after the pandemic to protect itself from potential future problems. Even if the loans are performing worse than expected, they are “still attractive loans” with “risk-adjusted margins that are higher than what we were writing before the pandemic,” Hutchinson said.

“Quite frankly, even with the headwinds in lending … we look at the yield on the loans we're making, we look at the yield on the recent vintages, and they're still attractive,” he said.

Ally has taken a number of steps over the past two years to improve its profitability, including Selling a point-of-sale credit department a competitor by cutting costs, taking the mortgage business off the balance sheet and using capital markets to reduce auto loan risk.

The company also has more of its loans bundled to sell on the securities market, where investors, not Ally, can assume the risk that borrowers will not repay their loans. The company recently completed the first of what it hopes will be many credit risk transfer deals, a relatively new structure This shifts the loan repayment risk onto external investors.

“We recognize that the path is more difficult and we need to do more,” Hutchinson said of the path to increasing investor returns.