Summary

• A flight to quality is reshaping the auto finance sector following a major fund closure.
• Capital is shifting from high-risk subprime lenders to stable, established firms.
• Tech-driven companies with strong underwriting are positioned to gain market share.
• The market now prioritises disciplined lending and robust balance sheets for growth.

BlackRock's Exit and the Great Auto Finance Shake-Up

It’s always telling when the biggest player in the room quietly slips out the back door. When BlackRock decided to shutter its Impact Opportunities fund after one of its key holdings, a subprime auto lender called Tricolor, went belly up, it wasn't just a bit of unfortunate housekeeping. To me, it was the financial equivalent of the lights flickering on at the end of a very long, very loud party. The cheap money music has stopped, and investors are now scrambling to find a safe ride home.

The Subprime Party Hangover

Let’s be honest, the subprime auto loan market has always had a rather racy reputation. It’s a world of lending money for depreciating assets to people with, shall we say, colourful credit histories. For a while, when interest rates were near zero, it seemed like a brilliant way to chase yield. Tricolor’s bankruptcy was the inevitable hangover. The company simply couldn't sustain itself as defaults mounted and the regulatory spotlight grew harsher.

BlackRock’s reaction was telling. Instead of trying to patch up the damage, they shut the whole thing down. This sent a clear signal to the market. The risk in the subprime space is no longer worth the potential reward. Capital, like a startled flock of birds, has taken flight, and it’s now looking for a much sturdier branch to land on. This, my friends, is what the City calls a "flight to quality".

In Search of Sober Drivers

So, where does all that money go? It doesn't just vanish. It seeks out the grown-ups in the room, the companies that weren't doing tequila shots on a Tuesday. I’m talking about the established lenders who prioritised boring things like robust underwriting and strong balance sheets over breakneck growth.

Take a company like Credit Acceptance Corp. They’ve built a business on disciplined lending and sophisticated risk models. They were never the flashiest, but in this new environment, their caution looks like genius. Then you have Open Lending, a firm whose entire model is built on a clever, automated lending platform that uses data, not just a gut feeling, to price risk. And let’s not forget Consumer Portfolio Services. While they also serve customers with credit challenges, their standards were always a touch more conservative than their now-defunct rivals. Suddenly, being the designated driver looks very appealing indeed.

It's All About the Algorithm, Darling

What truly separates these survivors from the fallen isn't just a conservative mindset. It's technology. The modern lending game is won and lost on the quality of your data and analytics. You can’t simply look at a credit score anymore. You need proprietary models that can predict default rates with unnerving accuracy. This is precisely the theme we explored in our Auto Finance Flight To Quality (Post-BlackRock Fund) basket, which focuses on these tech-forward, resilient players.

Open Lending’s platform is a prime example. It doesn’t just give a simple yes or no. It provides lenders with a detailed risk assessment, allowing for smarter decisions on pricing and terms. This isn't just about avoiding bad loans, it's about profitably making good ones. This technology-driven approach is what provides a durable edge in a market where the margin for error has become razor thin. For investors, backing the firms with the best tech could be the shrewdest move of all.

Deep Dive

Market & Opportunity

• The auto finance sector is experiencing a "flight to quality" after BlackRock closed its Impact Opportunities fund following the bankruptcy of subprime lender Tricolor.
• Capital is moving away from aggressive subprime auto lending and seeking safer, more established lenders.
• Increased regulatory pressure is pushing lenders toward more conservative practices.
• Rising interest rates have narrowed the margin for error in subprime lending, putting pressure on companies that relied on cheap funding.

Key Companies

• Credit Acceptance Corp. (CACC): Core business is built on disciplined lending practices and sophisticated, proprietary risk assessment and collection models to serve subprime borrowers.
• Open Lending Corp (LPRO): Provides an automated lending platform with risk-based pricing models and advanced analytics to help lenders make more informed decisions.
• Consumer Portfolio Services Inc (CPSS): Serves customers with credit challenges but has maintained more conservative underwriting standards compared to many competitors.

Primary Risk Factors

• The broader auto finance sector remains cyclical and highly sensitive to economic conditions.
• Increased regulatory scrutiny of subprime lending practices could lead to new rules that reshape the competitive landscape.
• The collapse of lenders like Tricolor highlights the inherent risks of mounting defaults in the subprime auto loan market.

Growth Catalysts

• Established lenders with strong balance sheets are positioned to capture market share as weaker competitors retreat or fail.
• Investment in technology, data analytics, and proprietary scoring models provides a significant competitive advantage in risk assessment.
• Institutional investors are becoming more selective, favouring companies focused on sustainable, profitable growth over high-yield, risky loans.
• The ability to adapt to broader automotive industry changes, such as electric vehicles and new mobility models, presents an opportunity for outperformance.