Aggregate U.S. consumer spending still looks healthy, but that strength is increasingly misleading. Beneath the surface, a clear K-shaped divide has opened between high and low-income households, one that is now showing up directly in securitized debt markets through rising delinquencies. This divergence explains the tension between two realities:
- Macro data remains solid, anchored by high-income households that drive nearly half of all consumption.
- Consumer credit fundamentals are weakening, concentrated among low-income borrowers whose budgets have been stretched past their limits.
This split suggests delinquencies can, and may, stay elevated without signaling broad consumer insolvency, an important nuance for investors evaluating securitized credit risk.
Macroeconomic data this year continue to signal a broadly healthy consumer. Spending has held up despite persistent inflation and tighter financial conditions. But this resilience is uneven, and the headline numbers obscure a widening divide across income groups.
Credit card microdata suggests that higher-income household spending has remained relatively strong while lower-income households have increasingly felt the pinch. Because the top decile accounts for nearly half of all consumption, its continued strength masks the retrenchment occurring within lower-income households. This helps explain why rising delinquency rates appear inconsistent with aggregate consumption data.
The root cause of this bifurcation is affordability, which has squeezed already tight budgets:
- Inflation: Relative to more affluent households, lower-income households have experienced higher rates of inflation as food and housing costs, expenses this cohort spends the most on, have continued to run hot.
- Wages: As the labor market has softened, lower-income households have borne the brunt of this effect, experiencing lower wage increases relative to other income groups.
- Wealth: Lower-income households are less likely to have benefited from very generous wealth effects from steadily rising equity markets, which have seen the liquid wealth of the top 20% of households surge to nearly 80% of total household net worth.
Overall, this suggests that while consumer financial stress is building beneath the surface, it is primarily concentrated among a subset of consumers—lower-income households—as the aggregate consumer remains healthy.
Rising delinquencies have reinforced the underlying bifurcation. Overall delinquency rates have climbed to their highest level since 2014, with delinquencies across auto loans and credit cards reaching post-2008 financial crisis highs. However, the increase has not been uniform across all borrowers. A closer look at what’s driving the rise in consumer delinquencies reveals a “K-shape” divergence: differing outcomes across two types of household borrowers—the higher-quality, or so-called “prime-borrower,” and the lower-quality, or “subprime borrower.”
Prime borrowers have remained solid. The pressure is almost entirely within the subprime segment, which is primarily made up of lower-income households – households that are disproportionately exposed to auto and credit card debt. As inflation rises and affordability erodes, stress is beginning to show up first and most in those two debt categories.
To some extent, the strain also reflects the legacy of pandemic-era lending. Exceptionally easy credit conditions and highly accommodative fiscal stimulus fueled a surge in subprime originations, often with higher loan-to-value and debt-to-income ratios. The performance of subprime auto loans originated between 2022 and 2023 are now showing the highest delinquency rates, while loans originated after lenders began tightening standards in 2024 are performing more in line with historical norms.
Monetary tightening from 2022 onward then amplified this imbalance, raising borrowing costs precisely as budgets were coming under pressure. This dynamic is skewing the aggregate data and explains why there is an apparent deterioration in consumer credit conditions, even though the “average” or aggregate household debt service ratios remain historically low.
While delinquencies may stay elevated, several factors reduce the risk that stress spreads meaningfully into the broader consumer base.
The labor market, though cooling, remains stable. Hiring has slowed, but layoffs are still historically low, keeping most households employed. However, weakening wage dynamics and worsening affordability have exacerbated cash-flow issues for lower-income households. Increasingly, this cohort has turned to gig-economy work as a supplemental income source, which, while less lucrative than traditional employment, provides an important backstop in an otherwise tightening environment.
Beyond labor market considerations, higher-income households remain supported by substantial wealth effects. With equity markets close to all-time highs, their balance sheet strength continues to underpin spending and debt performance. This group effectively stabilizes aggregate credit metrics, given their outsized weight in both consumption and outstanding loan balances.
Finally, overall credit conditions are supportive of lending activity in the consumer space. Lending standards have continued to loosen, with senior loan officer surveys of credit supply having swung more positively in recent months. This suggests that pockets of weakness amid the recent rise in delinquencies haven’t been enough to completely derail consumer lender appetite. Continued credit availability should help prevent isolated weakness from broadening into a more widespread tightening cycle.
Despite erosion among lower-income households and subprime borrowers, overall consumer fundamentals remain stable. This is the core tension: rising delinquencies within specific segments are real, but they are not broad enough to undermine the consumer as a whole. Absent a significant deterioration in the labor market that leads to a surge in layoffs, the stress building within the securitized debt markets is unlikely to become systemic. Lending standards also appear to be easing at the margin, suggesting that credit supply is improving rather than tightening, a dynamic that has historically supported household borrowing and consumption.
The securitized debt market has already begun to reflect this distinction between headline anxiety and underlying stability. ABS spreads have tightened in recent months, signaling strong investor demand despite the uptick in delinquencies. Markets seem to be effectively pricing in that the weakness is concentrated, not widespread.
Yet the increased dispersion underneath the surface calls for a relatively selective approach within the securitized debt market. Prime and near-prime credit segments should remain attractive, both because their borrowers remain resilient and because their performance has remained stable despite macro noise. Steadily improving underlying conditions also point to pockets of value even across subprime segments. The notable shift in underwriting and origination standards following the excessive credit boom years of 2022 and 2023 suggests that not all borrowers are created equal. As a result, subprime auto loans originated in 2024 and beyond should continue to outperform older loans.
Looking ahead in 2026, both monetary and fiscal policy appear to be tilting more supportive. This should help ensure further deterioration in the labor market is avoided, keeping the backdrop highly favorable for the consumer and securitized consumer debt. In a credit environment where corporate bond spreads remain near historic tights, the dislocation created by household level divergences may offer investors a compelling tactical window, particularly in ABS sectors where fundamentals are stronger than the headlines may imply.
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Investing involves risk, including possible loss of principal. Past Performance does not guarantee future return. All financial investments involve an element of risk. Fixed‐income investment options are subject to interest rate risk, and their value will decline as interest rates rise. Securitized debt presents investors with several risks, including credit, interest rate, prepayment, and liquidity risks. Its reliance on the performance of underlying assets, such as mortgages and auto loans, makes it vulnerable to market volatility and economic downturn. Asset-backed securities are affected by the quality of the credit extended in the underlying loans. Defaults or losses on the loans will negatively impact the value of the asset-backed securities.
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