Recent market and regulatory developments suggest that the immediate risks to German auto ABS transactions from declining diesel car prices have eased, Fitch Ratings says. This would be consistent with our decision not to adjust our asset performance assumptions so far in response to proposed driving bans and shifting consumer sentiment away from diesel, but it remains important to monitor developments and test transactions for their resulting sensitivities.
Diesel vehicles’ share of new car registrations in Germany was 32.6% in February, up slightly from a year earlier (although still about 10pp lower than in February 2017), according to Kraftfahrt-Bundesamt, as demand for diesel vehicles among commercial customers appeared to stabilise. Diesel’s share of the German used car market has generally remained within the range seen in recent years, and the proportion of registered used diesel cars that comply with the EURO6 emissions standards has risen to almost 30%. Meanwhile, the rate of decline of used diesel car prices slowed in 4Q18.
More information is emerging on the scope of regulatory restrictions on diesel vehicles in Germany. On 15 March, the Bundesrat ruled that city-specific bans should exclude EURO6-compliant vehicles, and that bans would be considered ‘proportionate’ only in cities where nitrogen oxide (NOx) pollution exceeds 50 micrograms per cubic metre.
The Bundesrat decision would limit eventual bans to cities where NOx pollution exceeds this level, of which there were 16 in 2017, rather than the larger number of German cities (36) where it is higher than the EU limit of 40 micrograms. The final nature and timing of city-specific restrictions, and their impact on demand for diesel vehicles, may depend on further legal and regulatory developments. For example, the court order in favour of a diesel ban in Frankfurt is subject to an appeal by the Federal State of Hesse, and appeals against similar court orders relating to other cities are likely.
Stabilising used diesel car prices would reduce risks to German auto ABS transactions with residual value (RV) exposure, where obligors can return the vehicle in lieu of final payments. The fall in diesel car prices since early 2017 has been within our recovery rate and RV assumptions for outstanding ABS deals, and we already stress deals for steep price declines, such as might be caused by an unexpected macroeconomic deterioration.
Moreover, the relevance of driving bans to ABS portfolios fades over time. A substantial proportion of used diesel cars in ABS portfolios backing new deals will already comply with the EURO6 standard, which was introduced in 2015. These deals are less exposed to regulatory risk. For seasoned deals with higher exposure to older models, increased credit enhancement will help address potential performance or RV risk.
Nevertheless, uncertainties around diesel demand, and the potential for renewed shifts in consumer preferences, remain. These include the speed and cost of hardware updates to reduce older vehicles’ emissions and the impact of manufacturers’ new scrappage schemes. The use of additional federal funds by cities to reduce air pollution via means other than restricting diesel car use could reduce the likelihood of further bans. Used diesel car prices may have started to stabilise, but there are signs that demand has not fully recovered. For example, the time-to-sale of used diesel cars has been elevated since mid-2018. The risk of further falls in used diesel car prices cannot be discounted.
We will therefore continue to monitor market developments, and provide investors with a rating impact analysis in a scenario where diesel prices decline by 25% more than in the stresses accounted for in the rating analysis, regardless of the EURO standard. This demonstrates limited rating sensitivity, with potential downgrades in some transactions almost all limited to one notch.
More detail on European auto ABS performance can be found in our quarterly European Auto ABS Index, available at www.fitchratings.com.