How car finance and diesel emissions could be the carmakers’ undoing

Who should be most worried about the collapse in the price of diesel cars? For most commentators it is those who don’t own their cars outright. Personal contract plans (PCPs ) now account for nine in every ten car sales and mean that pretty much anyone with a job can nip down to a car showroom and drive off in a brand new car.

Forty percent of those who do that, drive off in a brand new diesel car – the value of which is now falling fast (by anything from 9%-20% from pre-diesel-scare levels so far depending on who you listen to). That means that anyone wanting to get out of their PCP deal early could find themselves with a nasty bill.

A PCP deal is based on an assumed value for the car at the end of the term (usually three years). At the end of the term you return the car. You can buy it for that assumed value – now a guaranteed minimum value. Or you can leave it.

If you leave it (as most people do) and the car is worth more than the minimum value, you can use that “equity” to reduce the deposit on your next deal. But if you break the deal before the end, there is no guaranteed minimum – if the car has depreciated faster than assumed, you have to pay the difference. Doesn’t sound nice, does it?

But to look at the problem from the point of view of the car buyer is to look at it the wrong way around. Most buyers will complete the three-year term: the payments are relatively low and they will have budgeted for them. They might have no equity at the end, but they will have no debt either. There is no real problem. They can downgrade or get the bus.

It is the finance firms who will have the problem: they will have guaranteed minimum values that may well now turn out to be significantly higher than the actual resale value of the diesel cars. So, thanks to optimistic forecasts about the future path of the used car market (this sounds familiar because it is exactly what happened to mortgage lenders in the housing bubble), they will be taking a hit on every car returned. And that, as Stuart Pearson of Exane BNP Paribas told the FT, is going to be the thing that “pulls the rug from under the “great lease bubble.”

There are hints of what might happen next in the US: last November, Hertz took a $63m “depreciation adjustment charge” against its profits as it changed its assumptions (down…) about the resale value of cars coming off financing deals.

In the UK, 70% of PCP deals come from the leasing divisions of the big car companies. As prices fall they are the place to look if you want to see the pain appearing.