More substandard borrowers do not repay the loan

According to many creditors and analysts, the growth of overdue funds was inevitable after their decline during the pandemic. Despite this, the increase is attracting investors ’attention in part because the Federal Reserve, which has faced its highest inflation since the early 1980s, is embarking on what is expected to be the sharpest rise in interest rates in recent years. Higher loan arrears may indicate stress on the part of consumers, whose costs are a significant factor in economic activity.

Fears that rising rates will bring the economy into recession have caused the worst start to the year for stocks in decades. The poor earnings season for major U.S. retail chains heightened those concerns this week, leading to a significant decline in major retail stocks and sent the Dow Jones Industrial Average to its sharpest drop in a year on Wednesday.

Overdue car loans and leasing reached an all-time high in February, based on Equifax tracking, which dates back to 2007.

Many people, including those with imperfect credit, paid off their debts and amassed savings during the pandemic, a surprising result when you consider that lenders initially thought borrowers would default en masse when Covid-19 came. The government’s response, including incentive payments and tax breaks for children, has improved the financial health of many families.

But now many of these benefits are over. Subprime borrowers, who sometimes have lower incomes or smaller savings, have been hit hard. Inflation, which is approaching its highest level in four decades, is also forcing many households to choose between paying for basic necessities and monthly loans.

Some lenders are also more concerned about the ability of consumers to generally keep up with payments when some of their financial benefits, including the excess savings they have accumulated in the early stages of a pandemic, diminish.

Wells Fargo & Co CEO Charlie Scharf said Tuesday that higher food and gasoline prices will hold back U.S. households. “We’re still in the best credit environment we’ve ever seen in our lives,” Mr. Scharf said at the Future of Everything festival in The Wall Street Journal. But, he added, “people’s paying ability will deteriorate.”

The jump in overdue loans may reduce the willingness of lenders to lend to riskier borrowers.

Last year, many lenders turned to substandard customers, consoling themselves with low unemployment and fueled by a desire to restore credit balances that suffered at the start of the pandemic. According to Equifax, subprime lending reached record highs last year when measured by the total amount of personal loans issued in dollars and spending limits on new general-purpose credit cards.

According to the latest Equifax data, about 11% of general-purpose credit cards held by consumers with a credit score below 620 lagged behind payments in March by at least 60 days compared to 9.8% a year earlier. Loans to individuals and credit lines were 11.3% compared to 10.4% a year earlier. Both categories in July reached the Covid-19 era low of 7.5% and 8.3% respectively.

According to Equifax tracking, arrears on car loans and leasing reached a record high in February: 8.8% of substandard bills lagged behind in payment by at least 60 days. In March, the figure fell to 8.5%, but was still the second highest level of all time.

Fewer people are in the subprime credit category than when the pandemic began. Approximately 18.6% of U.S. adults with credit scores in 2020 had a score below 600 compared to 15.5% last year, according to Fair Isaac Corp.

FICO score creator.

Lenders say that debt is growing from artificially low levels and that their loan portfolios generally remain strong. Many call what happens normalization when the crime rate returns to a level greater in line with pre-pandemic times. Some say their debt remains below the level of the first quarter of 2020.

Capital One Financial Corp.

recorded a higher rate of US credit card arrears for 30 or more days in the first quarter compared to last year. Lender Bread Financial Holdings Inc.

also reported higher arrears on its cards and other loans for the quarter. Both lenders issue credit cards to subprime borrowers. Other major card lenders have not seen this growth over the same period last year, said Michael Tayana, senior director of the American banking group Fitch Ratings.

“It would be unnatural for the loan to stay where it is,” said Capital One CEO Richard Fairbank during the bank’s latest earnings call. “We expected this ubiquitous return to normal over time.”

Upstart Holdings Inc.,

Opportun Financial Corp.

and OneMain Holdings Inc.,

which facilitate or provide personal loans to people with limited credit history or low credit scores, also reported an increase in arrears in the first quarter.

Last week, Upstart said government incentives had led to a temporary consumer transformation. He recently reintroduced loan changes for borrowers who have difficulty paying payments.

Consumers are facing mixed prices for gasoline and rents, while employment and wage growth remain strong, said in an interview with Raul Vazquez, CEO of Oportun. “As it all mixes up, we’ll all see in the next few months.”

Write AnnaMaria Andriotis at annamaria.andriotis@wsj.com