Why Buying a New Car Might be a Terrible Financial Mistake

I think I know quite a lot about cars, but I don't know a lot about car buying, let alone how a dealership works. Other than that, maybe they're always trying to take my money. So today we'll have on Dave Thomas from CDK Global. He's going to get us up to speed on not just the affordability crisis for new cars, but on the growing negative equity problem and surprisingly, why nobody seems to care. All right, welcome Dave, or I guess maybe welcome back. I'm pretty sure we've had you on the show before. I know you've been on the Truth About Cars one, which is the same company, but either way, you're a prolific voice in the space. So thanks for coming on the show today. Yeah, thanks for having me. I can give you a little moment to maybe introduce yourself, but first I'll say that this is a podcast episode today inspired by something you wrote. So I was on, I think it was LinkedIn or something, and I saw a post, an article on the CDK site called, Why Car Buyers Are Okay With Negative Equity. And I was intrigued because I was thinking, well, I'm not okay with it, and maybe everyone else is. And I thought, am I missing something or is everyone else just dumb? And I'm not. That's what I like to think about myself. So maybe, could you give us now a little insight into who you are, what you do, and what is CDK Global, et cetera? You got it. So I'm the Director of Content Marketing here at CDK. CDK Global is known as one of the largest software suppliers to automakers and car dealers in North America. And so when we look at the content we produce, our audience is primarily that dealer network. But what we aim to do is connect the consumer and the habits that they have to that dealer network. So every car dealer is laser focused on their store or their group and their specific area and geography and their own customers, but they don't always see the whole picture of what's going on nationally or even broader. So that's what we try and do is develop stories, dig into different parts of the purchase process, especially things that generate friction when people try to buy a car and they say, oh, this took too long. That's what we really try and dig into with all of our work here. Interesting. Oh, that's cool. I never really thought about it that way, especially because I would suspect a lot of those dealer groups are very regional. And so they would be looking at, even if they're not looking at just the city, they're looking at their area of the country and the trends. They could be way ahead of the curve or way behind the curve. And having a good picture would help things out, I think, a lot for them. Yeah. Okay. So maybe as we dive into it, could you give us a little definition, get people up to speed who maybe are just automotive enthusiasts or general car shoppers about what is negative equity or people always use the term being underwater on a car loan? What does that mean? Yeah. Put simply, having negative equity means you owe more on the car than it's worth in the current market. Obviously the used market because you bought it, it's now a used car. And so you'll hear anecdotally people say, oh, it loses money the second it drives off the lot. And that's what that means. But overall, if you finance a vehicle and you follow the tried and true, put down this much for a deposit, do a loan for hopefully four or five years and not too much longer, we can talk about that, that you'd be not underwater or owe more on your car after about three years. And so what we're seeing is lots of different things have happened post COVID and how people buy cars. And that has really changed the game when it comes to negative equity. So more people have more because they've changed different habits. Namely, cars were inflated in price for a time, a few years ago. And secondly, people are extending or signing up for loans that are longer than what we've seen in the past. Gotcha. Yeah. So on that, maybe we could dig into the article now. It seems like you're saying people are, they seem to be okay with it. This idea of building debt into, I don't know, just more debt. They're just okay with it. That's part of people's normal financial planning now. I don't know. I wouldn't say it's part of their financial planning, but so basically what happened internally just as a news person myself, we kept seeing the numbers on negative equity come out. People have more negative equity than ever, excuse me, and loans are longer than ever. And I was kind of like, well, has anyone asked people why they're making a deal with negative equity, which is who we asked. We asked people who traded it in with negative equity, why? And this was over a thousand buyers over a few months period. It goes into our monthly ease of purchase study. So this is a lot of people, a lot of people who bought the car who actually purchased the vehicle. So it's not just shoppers or people considering it. They did the deal. And the really interesting finding was that over a third of them said they did it because they just wanted a new car. They just wanted the latest and greatest. So that's a lot, but this includes a lot of luxury buyers who have the means to do so, but also just people who, for whatever reason, just wanted that new and shiny vehicle. And another group, you and I have been in this business a long time. We know that life events influence car buying. And so another 14% made the deal because they had a growing family. Yeah, there you go. I got your slide ready. Yeah, this will help me. So yeah, so when you take those two numbers, these aren't people who bit off more than they can chew, as I say. I think that's the common idea of someone with negative equity is they bought too much car than they could afford or something horrible happened to them, like they lost a job or something like that or medical something, and they just didn't have enough money anymore to pay that payment. But that's really a small amount. That's that 16% looking to lower the monthly payment, or even the 21% on the maintenance side. Those are the ones where they just didn't understand the financials of it going into the deal. Gotcha. Yeah, because it's funny, when I looked at these numbers, I kind of assumed the... To me, I put the 34 and the 16 in the same bucket of I want to get something, because I want something better. I want something cooler, better. Who does it? That's why a lot of people lease is because it allows you to get something better for less money. So I kind of thought of those as very similar in the same buckets. And then when you look at it that way, that's 50% of people making probably not a great financial decision versus your other folks, like the growing family. It's totally legit. That's cool. That makes a lot of sense. And you do that the same way. You might buy a bigger house because... I mean, I know houses are a different thing, but you might buy a bigger house because you've got a bigger family and you're planning for the future. But you're saying you're not really... You're not as worried about that 34% on the top. Those people are... They're not all making poor decisions is what you're saying. Well, the thing that concerns me about the number at the top and trends we've also seen post-COVID is the reduction of people or the loss of people leasing, period. That used to be much more popular before COVID than it is today. And I think the other thing... We don't like to talk about the pandemic all the time, but it really taught bad habits for a number of reasons. And the ability for people over a couple of years when supply chains were restricted that they could trade in and trade up and not lose much because the market was so tight. And so that really taught some bad habits on buying a car for a short amount of time, it being worth so much when you sold it. That's not the case anymore. Even though the used markets pretty strong, this isn't the case anymore. You're going to lose the money off the lot, just like it used to be pre-pandemic. But leasing, if you're one of these 34% and you just want the latest and greatest and you're trading in before that three-year, maybe it's a little longer than three years nowadays, but that three-year mark where you usually have positive equity, you should just be leasing. That's what leasing is for. It's for these 34%. And the leasing numbers aren't as high as they were. I think the number is still under 20%. I'd have to look that one up, but it's not where it used to be. And so I think that, yeah, go ahead. Do you know why that is? Maybe you've kind of explained it in there, but why is it that people have moved from leasing to presumably, I don't know, are dealers better compensated on purchase? I don't know. Is there a reason that it's minimized? I don't know if it's a dealer issue and not educating on the leases. I think it's more on that consumer side. I think you have generations that were probably told leasing wasn't a good idea, things like that. And of course, as we said, that they had examples from the early 2020s of having value in that asset, and that value isn't as high as it was even four years ago. So I think it's all those things kind of put together. And luxury always kind of moves a little faster than the rest of the market in these regards. So I think on the luxury side, you're seeing more people lease again. And that's always been a bigger part of the lease pool. But I think on these expensive mainstream vehicles or mass market vehicles, like the big SUVs from GM and Ford, not trucks so much, because there's so much work that gets done with trucks. Gosh knows you don't want somebody inspecting your truck on the lease trade. But or like the big SUVs from Kia and Hyundai, the Palisade Telluride, right? Like these are very expensive, near luxury type vehicles. And leasing for those might start being more attractive as well. Gotcha. Yeah, no, that makes a lot of sense that people would basically that generation of people growing up being told leasing's bad. And then saying, well, not thinking through that, to a certain extent, if they're taking on all that negative equity and just spreading out their payments over more and more and more time, they're effectively becoming a different type of leaser, right? It's a similar problem, but maybe with even worse consequences, because you don't understand what it is you're doing, even though your money's going out the same way. Interesting. So in the article that you said, there's a quote here that said 58% of buyers who told us they were trading in a vehicle with negative equity wasn't a surprise, despite the number being much higher than the industry norm of one third. And I went back and did a little digging. It seemed like it wasn't that long ago that we're talking like 25% of the industry seemed like a lot. And then it was like a third was like, oh my God, it's a third. And now you're saying like 58%. And you're saying that your own numbers you think are skewed a bit by more luxury buyers, but still that seems wild. Actually, that number I think is skewed because our average income level is lower. So it was more of that group that maintenance and lower payments. I think that's probably why it was that high. But yeah, it's interesting that our numbers are so different, but we've been doing that study for four years and the consistency of the responses over that time has been really rock solid. So yeah, it's just one of those things where it does seem like our group's a little higher. Interesting. I wasn't going to get to this yet, but I'll throw out, this is a slide and I think I sent you a little brief on this beforehand. And maybe this is so this was, it's funny, it plays to, I think a lot of us are like this, everyone looks for the doom and gloom, the next worst thing. It's funny, I listened to a podcaster, Steve Eisman. He's the guy who actually is the star in the big short, the movie. And so he's got his own finance pocket, very interesting to listen to. And he talks again about how he predicted the 08 recession, but everyone's always looking for the next apocalypse. What's the big thing? It's the news media. We love to get, so there was this stuff stack post from this Glenn Mercer, who I wasn't familiar with, maybe you are. And he basically, yeah, good, good. So he did some digging sort of looking at the opposite of this and saying, well, actually, maybe it's not all doom and gloom. And his conclusion was, look, he ran through, basically pegged, yes, certainly car prices to a certain extent are going up and cars are more expensive, but also the percentage of your, what is it? Average income, a disposable income, it's actually going down as a result, like a piece of that, how much you spend on a car relative to your disposable income is going down. So I don't know if you had any thoughts on this, if it's doom and gloom or- So I hadn't seen this before, but this is my immediate reaction is agreement. Here you have two things working on changing this percentage. The first is probably the, well, I won't say which one's more important, but anyway, the first one that you definitely see is consumers now more than ever are laser focused on the monthly payment. So they want a low monthly payment that's in their brain. So they're extending their loans, as we've all seen, to get the lower payment. So when you're asking a question here, which it looks like the question here is the monthly payment as a percentage of disposable income, people have really worked to make sure that monthly payment is low. So that's one thing I think going on here. The other thing which I bring up a lot is that, well, the average transaction price in our industry is over $50,000 and it keeps going up a lot. When you look at the price of a new vehicle versus inflation and how much it's changed, car prices have not gone up anywhere near inflation, especially when you're looking at very specific models, mainstream models, sedans especially, like Honda Accord, it has not gone up with inflation at all in 20 years. Camry is the same way. The ones that have are generally trucks and the biggest SUVs with the most profit on them. And something like a RAV4, which has just completely changed its product mix with it going all hybrid and stuff. So with a few of those exceptions, for the most part, new vehicles are a better value than almost anything we track inflation. I think even last month, and this isn't just the Bureau of Labor Statistics CPI number, which is low, it's a 0.1 or something. We have what we call the affordability tracker, which stems from this point I've been following forever. We started something that tracks the price of the best-selling vehicles in the country to see how they're going and how they track against inflation or against the average transaction price at 50,000, because that is such a number skewed by a K-shaped economy which we're in. And so when you look at those 10 best-sellers, the RAV4, again, if we exclude that one, because it is just transacting at such a wild number right now, they are not going up hardly at all. And that average price for the top 10 best-selling passenger vehicles is $36,000. Now, it was under $36,000 until this year. It's still going up. Prices are always going to go up, but it's a very small amount. Our numbers are $50 versus the year before is how much they're going up. And even if you exclude gas prices, which we probably shouldn't, but most other factors going into car ownership and things like that are going up far faster, service and maintenance especially. Oh, yeah. So interesting. I'm getting a little off topic here, but you mentioned that the $50,000 versus the $36,000. So you're saying, and I don't think I've really realized it, so the $50,000 average price, that includes all the pickup trucks and the Chevy Tahoes and everything else versus regular passenger cars are $36,000. And the G-Wagons, I mean, G-Wagon, and I pick on G-Wagon because everyone can picture it in their head right away. And I think that starts at $150,000, but they had a record year last year of G-Wagon sales. So when people say, oh, you can't afford a new car, that G-Wagon is greatly influencing that headline, which is not true. You can still get, and I don't have all the exact average transaction prices of those 10 cars in front of me, but you're still getting your compact sedans at 25 or less. So it's a strange way of showing that people can't afford cars by highlighting average that includes the most unobtainable cars on the market, as well as the most attainable. So it's a very odd way of doing it. That's why when we're tracking, and I think five of the best sellers are compact SUVs, which is, right, that's just what people want. Those are transacting around 35, with the exception of the RAV4. It's just, we can have a whole podcast on how the RAV4 rollout's gone and stuff. But when you're getting these vehicle today, and again, you and I have been doing this a long time, a base model of one of these compact SUVs, whether it's a CRV or Equinox or whatever they are, they are packed. I mean, they're packed with stuff. They all have the screens now. There's very few anymore that say, oh, base model's going to have the smaller screen. Some still do it, but most don't. I was in a rental Chevy Trax, and I went onto their website and built out to see just how much this thing was. It was 25 grand, and it had heated seats, heat steering wheel, all the Apple CarPlay you could want, all this stuff. It's like, there are cars out there that are affordable that people can buy, and there's a lot of them, right? And that's what most people end up buying. But the headlines all keep focusing on the 50,000 transaction price, and it's just, it doesn't really tell you anything. Gotcha. That is fascinating. I guess I never really thought of it that way. But kind of going back at that graph, it sounds like, so one, just to think about it, so you're saying, I think that's a great point that the pricing is, that inflation is not, cars are actually not that unaffordable, which is an interesting point. But then also the flip of that is that, yes, this is, he was relating it to what people are paying every month. And what people are paying every month is, they are, in a sense, building into that negative equity into a prolonged financing term that's no longer four, like you said, four or five years, but seven or eight years. Yeah. I mean, you can look at it a lot of different ways in someone's personal finances. Generally though, most people would not recommend extending loans past six years, right? Once you get past that, it's really difficult to make sense of it. And you're not going to be getting a good interest rate, right? Usually those people are getting, the people that need it that low and extending it that far, aren't the type of credit buyers that are going to secure a low interest rate on that term. So it's even worse, right? In the longterm. So that's unfortunate. But there are also people like, hey, if you get a 0% loan, I tell people, make it as long a term as you can, because it's 0%. Free money. Yeah. Right. So exactly. But there are obviously a lot less of those out there now. But yeah, so it's that financial consideration of what you can afford that month. And I think, again, I'll have to dig into that post from Glenn, because when you say disposable income, there's also a vast increase in people traveling than there used to be. So I wonder when you're just thinking of that percentage of your disposable income, also, what does that mean? Because I don't think of a car payment as part of my disposable income. That's part of my, that's my bills, right? Good point. Yeah. So why? Yeah. Yeah. Right. It's a bill. Yeah. Yeah. Most people need the car for life in one way, either to get to work, get the kids to school, whatever it is. So that's also kind of interesting. But there's lots of other things in our post-pandemic economy that are very different, and travel is one of those big, big ones. Yeah. Where everybody came back all of a sudden. Yeah. And also, just thinking back, the cars were, it was another, it was like a finance podcast I was listening to. They were talking about how during the pandemic too, that one of the things that drove car prices was, sure, it was scarcity, but it was also the government was writing everybody checks. If there's a couple thousand bucks extra in your pocket that then the automakers were like, well, we can charge a little bit more for these cars because people literally have the funds to pay it. And especially short-term, that's not a problem. But then when the price of your Maserati, the resale value on it goes down pretty fast, you're left in a bit of an issue. Yeah. And when you think of our economy right now and the resiliency of car sales right now, they're not flying off the lots necessarily as they used to, but most of the SARS in the past few months have been 16 million, which is pretty darn good. People, if they don't remember the records in the 17 million range, and it was very low during the pandemic, but 16 is relatively healthy. And I think a lot of that is from a couple of things. People can't buy new homes, so they can't really change that expense too much. And so they still have the money, they just don't have the option. So maybe they'll make it their second biggest purchase again, buying another new car. Yeah. So that's one of them. And I just blanked on the second one, but the other part of the economy is the stock market's doing fantastically well. So people of again, buying the G wagons are in a better position and do feel better about their position than most other people. Yeah. It's funny you mentioned about the place to park your money. For a while, just a couple of years ago now, I did a lot of business with, or at least a lot of meetings with Nissan in Nashville. And I was there with a colleague of mine. So I'm in Toronto, which is Canada, different market in a sense, but still an expensive place to live. He's in Seattle, sort of like Amazon HQ and expensive place to live. And we're down in Nashville and he's like, everyone here has an SUV. Absolutely everybody has a giant luxury SUV. And then you look at housing prices, like if you get a, not Nashville proper, but you go to the suburbs where Nissan is and it's like, that's why it's like, because houses are so cheap. You're going to park your money somewhere, spend it on something. Because it's like, you just had extra money if you're a decent income. Housing's cheap, so cars can be expensive. Yeah, exactly. Interesting. So we've got this, I guess, maybe from what you're saying, cars aren't as expensive as we think they are. So that's an interesting place. But looking at the report, what you put up there, should we be worried here about this? If we're talking about the people who are looking apocalyptic or saying, this is the next, everyone's going to go underwater on their loans and the dealerships won't be able to keep up and the banks will have problems. Are we looking at that here or is this just like, it's not as bad as those numbers suggest? Well, the numbers aren't good. You want them to be better, right? But I do think this is a, someone's going to play this back in a couple of years, but I do think this is a low point. I think it'll start, all those numbers will start reversing as time goes on from here on out, mainly because this education part, which we need to deliver about how long, sorry about that, how long the term should be, what's a good term for you in the F&I office, having that explanation. And also, the younger generation understanding these things, also important. I see more and more social media, financial gurus, and many of them aren't very good, but there are a few that are quite popular who aren't Dave Ramsey, but there are a few others that are quite popular talking to a very young generation and through their own techniques or styles, explaining very bluntly that you should not be spending such a portion of your income on a vehicle. I think this younger generation thinks they should have a certain car at a certain time and don't quite understand the realities of what you should be spending. So that's, I think a lot of that education is going to turn, like you used to see a lot of videos about promoting people that had the highest car payments go, wow, that's crazy, that's great. And you've seen that totally turn, like your car payment is what? It was like the exact same, right? Car payment, something doing a thousand a month. It's like, oh, that's because you got this great car. Now people are looking at it differently. And maybe that's because the economy is obviously changing, consumer sentiment's super low, all that kind of stuff. But I think that, in a weird way, I think that education via social media is going to be pretty impactful to that group. And then I point out a lot, that's I think the Gen Z generation, but the millennial generation, I did this in some of our other research, they have never had a moment in their adult lives when 0% financing wasn't readily available to them until right now. So every car purchase they've made up until now, because this is every three to five years, they've had that ability to get a really good loan with a lower payment. And they're not seeing that today. So there are some of those things where the eyes will bulge, and the millennials are the largest generation right now. So there are a lot of factors where people are obviously seeing something that looks more expensive than they're used to, even though when you look at inflation, all those other things, it's really not. Gotcha. That's interesting. Yeah. Because I think it's true, people, if you've lived with 0% financing always, then you don't think about it. And then if somebody says 6% and you're like, whatever, I'm just buying a car. But then, yeah, the 6% adds up and several years in, you wind up well, maybe not a heap of trouble, but it does add on. I pulled up, there was some statistic I found that said that average new car payment, I can't, this might've been from Edmunds, was $7.77 a month. And the average underwater buyer was paying $9.44 a month. But I kind of take that back to your point that most, you're saying most underwater buyers are those who would already have effectively like, they're doing it because they have to, they have not great credit scores, they get bad financing rates. And so it's like, they're being penalized on top of being penalized, really. They're just sort of in a bad cycle. Yeah. So it's a mix of, I think, looking at averages again, now a lot of G-Wagon buyers probably buying cash, but there's still financing going on. So I can't even imagine what the monthly payment on a G-Wagon is, right? You're well into the thousands with that. So that's what an average is. But there's other cars, I think, and trucks are probably one of them, where people are, trucks are very expensive. They have gone up much more aggressively than passenger vehicles. That could be one of the things getting people in trouble, the trucks. And the very large SUVs are exceptionally popular as well. And those, I've been off more than I can chew, but I bought this big expensive SUV thinking I needed the room maybe, or it just is too much or whatever, the gas prices are too high. They might be changing that one over and those are not inexpensive vehicles. And those people might say, I want to take this hit to get out of a vehicle that doesn't fit my needs, right? Or, and vice versa, maybe someone bought a sports car that they didn't need or couldn't fit a kid in. So there's all those types of factors that could influence that number. So maybe, I mean, I really feel like you already answered this, but this is kind of the, how do we solve the problem? It sounds like the education sounds like it's a big piece. Is it just that people need to stop buying cars they can't afford? I don't know. Yeah, it does kind of boil down to that. And who and what can we do is I do think you have the consumer side of the education and we know who some of those groups are plus those social media folks I talked about. And on the dealer side, there are dealers now pretty publicly saying they won't even offer these seven or eight year loans. Really? Yeah, because to their business, it's delaying a return of a customer, right? And some of them have said they don't expect, if they gave a seven or eight year loan, they don't think that customer is ever coming back to them. So it's not always, a lot of times people outside of our industry, which is the automotive retail part, the dealership side, think the dealers are just trying to generate that 30 day revenue stream. But some of the more prominent and successful dealers are saying, no, we are focused on long-term success. They still want to sell a lot of cars within 30 days, but we're focused on our long-term success and they see these long loans as not helping them. That's a fascinating thing. Yeah, because I always think of critical dealers as a consumer, but I also feel like that's a good point. The ones that are well run, they're not just looking at this month, they're looking at what does this business look like in 20 years from now? And how do you build something of meaning? And I also feel like the industry, I haven't looked at these numbers recently, but I feel like there's, for a long time, there was a lot of acquisitions going on of dealer groups getting bigger and bigger. And you got to manage good financial books to be able to take on more and more of those and I don't know, like Penske or one of those guys that own hundreds of dealerships. Yeah, exactly right. They're extremely savvy business people. And as you said, as the groups keep getting bigger, these are quite large organizations with really large financial sheets and goals, just like any other large company. Is, maybe to close that, is there anything that I didn't ask you? I know you were recently on a panel, we talked about that right before we hopped on here, talking about a lot of these things. Is there something I haven't asked or mentioned that you think people need to know about this or covered at all? No, I think on the negative equity, we went through a lot. I think what our ease of purchase has kind of shown is, I do think there's this interesting thing going on right now with car sales and what we call resiliency. And August might be a little lower in terms of overall sales, we'll see. But when we study the purchase process every month, we are seeing some of those particular points in the process, whether it's applying for credit, negotiating your trade in, negotiating the final price, whatever, like the nitty gritty parts that we track, doing pretty well. But when we ask our number one question, which is, was it easy to buy a car? The numbers are staying pretty low, even though all those other metrics are good. So right now it's at 81%, and it's held steady there for about three months. And we've hit over 90, even within the last 12 months. So this consumer sentiment thing that's going on, which University of Michigan tracks lowest ever, is having an impact on car buyers too, that they're feeling like it's not easy, even though it was easy to do this part, it was easy to do that part. It didn't take me as long as I thought. A lot of those metrics are good, but that number one isn't. So it's a really interesting economy, really interesting sentiment that we're experiencing. And it's really difficult sometimes to read the tea leaves, because people, I think, are just feeling differently than the actions they're taking. Well, that's often true. People do different things than they say. Yeah, interesting too. Clearly, people always, in a sense, feel like they hate buying cars, and it's a process. But partially, it is a process. When you buy a house, it can take weeks or months. There's no lawyers when you buy a car, not that you interact with. You don't have to go and hire your lawyer. So in that sense, on the scale of things, it's unique. And maybe, I don't know, maybe there's no solution. Maybe it will always be a bit more of a drawn-out process, because it's a lot of money, and it requires some process to it. Yeah, and I haven't bought a house in a long time. And buying a house is a much longer window than buying a car, but it's not a fun experience either. Right? I mean, when you sign your loan agreement for a house, it's a pretty big chunk of change. And so more people buy cars more frequently and go through that experience much more often to either say it's good or bad. But if you had that turn rate with buying a home, I don't think that industry would be looking any better. No, no. Good point. Awesome. Well, thank you so much for your time. It was very interesting to learn a lot more about negative equity. And I guess, hopefully, maybe we spread a little education here through this podcast to get people to not get themselves in a bad situation. Yeah, that'd be great. Awesome. Thanks very much, Dave. Take care. All right. Thank you. Take care.