Subprime auto lender Honor Finance put in “house of cards” debt deal that was “doomed to fail,” says SEC

Five years ago, a Chicago-area auto lender sold a $ 100 million subprime auto bond contract that the United States Securities and Exchange Commission said was now “secretly stuffed” with “debt. irrecoverable “, disguised to look better than they were in reality, according to a complaint filed by the regulator Thursday.

The SEC described the Honor Finance 2016 bond deal, or “HATS” securitization, as “a house of cards that was doomed to fail, and it predictably collapsed when their scheme collapsed.” , in his complaint.

About a year after the sale, problems began to emerge, especially when bankers who signed up to the deal returned to ask questions about Honor’s loan modification process, according to the SEC.

A few months later, the bonds were the first securitization of subprime auto-loans being downgraded in the United States by rating agencies since the 2008 financial crisis.

Honor executives “continued to mislead HATS underwriters and others about Honor’s loan modification process,” the complaint said, adding that senior executives at the lender continued to provide “false information and misleading “which were included in monthly bond reports in an attempt to conceal” reckless loan modification and management practices.

The SEC has accused the co-founders of Honor James Collins and Robert DiMeo of securities fraud in connection with the bond sale. He calls for civil penalties, a return of all “ill-gotten gains” and restrictions on their future business activities related to the complaint.

Collins and DiMeo could not be reached immediately for comment.

The Honor agreement stood out in 2016 for having conditioned loans to high-risk borrowers who pay average rates of nearly 36%, despite a booming subprime loan market where privately funded companies often charged double-digit interest rates to borrowers with weak credit.

Investors picked up his riskier bonds rated BB-, or “junk”, at a coupon of 8.05%, according to data from Finsight.

Despite concerns over the aggressive lending and collection practices of many used car financiers, Fitch Ratings recently said little downgrade in subprime auto bonds had ever taken place in the wake of the financial crisis in 2008, and that no deterioration was reported during the brief recession of 2020 triggered by the pandemic.

A person with first-hand knowledge of the Honor case said that the subprime auto securitization industry can be based on a “garbage in, garbage out” system, where risky loans are often made because they can. be securitized and sold as bonds to investors, but most Auto subprime deals have been put in place to withstand even 50% of loans that go wrong without causing losses.

The Consumer Financial Protection Bureau has provided consumer relief to many at-risk auto borrowers over the past decade, and large fine extracts from many of the best subprime auto lenders.

According to Finsight, about $ 32 billion of new subprime auto bonds were sold this year by Wall Street, up from $ 27.7 billion for all of last year.

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