Harley-Davidson (NYSE:HOG) is cruising back into the securitization market for the first time in three years, with a collateral pool possibly worth as much as $658 million.

Because the asset-backed securities feature high ratings from Moody's Investor Services and Fitch Ratings, and the loans being securitized have high FICO scores, it looks as if the motorcycle maker is dealing a hand from strength that should find a ready market. 

Four riders on Harley-Davidson motorcycles in front of surfboards

When riders are buying Harleys, they're extending the payments out as far as possible to afford them. Image source: Harley-Davidson.

Securitization is the process of bundling individual assets together into a group and then selling partial interests in the entire pool of assets. One that many people are familiar with is mortgages. Harley-Davidson is bundling together the loans or leases that buyers have taken out on its motorcycles and it is selling them to investors for an upfront payment instead of collecting the monthly note amount itself over the life of the loan or lease.

That gives Harley an opportunity to move some debt off its balance sheet and open up liquidity. However, these are loans with long original loan terms, and the bike company's financial arm has seen its delinquency rates and loss rates start to rise as the market for new motorcycles remains depressed and used bike prices are soft.

Although this seems to be a net positive for Harley-Davidson, the underlying trends it highlights suggests it's still facing difficult times.

When a bike loan is like a mortgage

According to a pre-sale report from Moody's, the pools of securities have loans with an average balance of over $15,800, a weighted average borrower FICO scores of 757, and an average APR of 6.64%. The total value of the loans is well above the $302 million securitization Harley did the last time it was in the securitization market in 2016, and the FICO scores are higher too. There has, however, been a slight increase in the average length of the original loan terms, from 70 months to 71 months, with less than 2% of the loans having under four years remaining.

The problem is that a six-year loan is a very long time for a motorcycle, because it indicates the buyers can't readily come up with a down payment to lower the principal. Instead, they're extending the terms to reduce their monthly payments. It results in paying much more for the motorcycle over the repayment period, and it also means the buyer owes a lot more than the bike is worth for an extended period of time.

Loans in the securitization pool from 61 months to 72 months account for 36% of the total, while 73 to 84 months -- seven years! -- make up 28%. So even supposedly well-qualified buyers are extending payments well out into the future.

And because used motorcycle prices continue to be soft, selling the bike becomes more difficult. Any economic downturn will make it hard to maintain the payments the buyer already really couldn't afford to make in the first place, and also difficult to unload.

Rising loss rates

Moody's notes that annualized net losses of 1.77% were higher than they were in the recent past, and Harley says first-quarter losses rose to 2.22%, as its 30-day delinquency rate rose to 3.73% from 3.31% a year ago. Total past-due receivables, however, fell year over year in the first quarter.  Harley expects the number of delinquencies to rise as it targets more subprime customers.

Because of the higher rate of prime borrowers in this securitization, though, Moody's anticipates cumulative net losses from the deal of just 1.5% for the deal, while Fitch pegs it at 1.6%.

What happens when things turn ugly

Harley-Davidson's motorcycles are expensive, and the bike maker has been loath to cut prices in response to falling sales. It doesn't want to impair the premium associated with the brand, so price is more important than volume. While it has offered some promotional discounts occasionally, it has been a targeted affair and not at all broad-based like its rivals.

That has largely meant Harley's profit margins have remained intact, but sales have fallen for four consecutive years. Last year, sales tumbled by double-digit rates. It's made more difficult by the flood of lower-priced used bikes that compete with new ones. Although Harley told analysts during its first-quarter earnings conference call that prices of used Harleys in its dealer network rose for the seventh consecutive quarter, they're still exceptionally low when compared with the cost of a new motorcycle.

Even though it's building out smaller bikes that will presumably carry lower price tags, they're being built first for foreign markets where it's going to have a difficult time breaking the chokehold existing manufacturers have on share in those countries.

Harley-Davidson has some $5 billion in finance receivables, meaning its return to the securitization market after the long hiatus won't really change much for the bike maker. Unfortunately, the broader motorcycle market isn't changing either, and that's a worrisome situation for the bike maker.

This article represents the opinion of the writer, who may disagree with the “official” recommendation position of a Motley Fool premium advisory service. We’re motley! Questioning an investing thesis -- even one of our own -- helps us all think critically about investing and make decisions that help us become smarter, happier, and richer.