Is the Automotive Bull Run Over?

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Bulls hoping for a big move up in U.S. auto sales were surely disappointed by June's numbers. While overall U.S. light-vehicle sales were up 7.1% over last year, the SAAR (for "Seasonally Adjusted Annual Rate," a closely watched annualized estimate of auto sales) was a mere 11.4 million, the lowest number of the year.

That number was depressed somewhat by vehicle shortages due to the ongoing recovery in Japan, but the larger issue for our purposes is this: Even if the automakers sell 12.5 million vehicles in the U.S. in 2011, that's far below the sales total seen in the year before the economic crisis in 2008. The 16.15 million vehicles sold in 2007 were cited as the lowest level in a decade.

Put another way, the overall vehicle sales rate in the U.S. is about three-quarters of what it was before the economic crisis -- despite the significant improvements to the economy since the dark days of early 2009.

Is it stuck? If so, what are the implications for auto stocks?

A big break in the trend line
For many auto investors, the question of better vehicle-sales trends is only now coming into sharp focus. Until recently, the bull cases for companies like Ford (NYSE: F  ) and General Motors (NYSE: GM  ) have been more about the individual companies' turnarounds than about prospects for the industry as a whole.

But these turnarounds are maturing. Ford still has a large-ish debt load to pay down, but its cash hoard exceeds its debt burden and all signs are that management has things in hand. And I might argue that GM still has a lot of work left to do on its product portfolio, but the company is solidly profitable and out of danger.

Increasingly, a bull case for either automaker (as well as for others) will need to rely on prospects for earnings growth. While both companies will continue to find growth in emerging markets like China, those sales aren't as profitable as those in developed markets. They'll continue to compete for small market share gains in the U.S. and Europe as well, but those aren't likely to amount to a whole lot on the bottom line.

A lot of work for incremental gains
It may well be that the leading automakers spend the next few years making massive investments in product simply to hold the market share they currently have. Individual companies' prospects will ebb and flow over time with their product cycles, as hot products command bigger margins. Right now, Ford and Hyundai (OTC: HYMTF) are strong, Honda (NYSE: HMC  ) and Toyota (NYSE: TM  ) have faded a bit, and Volkswagen (OTC: VLKAY) and GM are on upswings.

That pecking order may shift some as each company's post-economic-crisis product-development efforts begin to show fruit, but those gains are likely to be incremental -- unless the overall level of sales in the all-important U.S. market rises significantly.

But will it? For every "expert" who thinks it simply has to -- vehicles wear out and will need replacement eventually -- I can find another who will point to the obvious counter-theory: That last decade's high sales numbers were inflated by consumers' willingness to go way into debt and the easy availability of credit. Personally, I think that sales will eventually hit 14 million or 15 million again at some point within the next several years, but will it be one year or seven before that happens?

I don't know, and right now I don't believe anyone who says that they do.

Making hay right now
I had a conversation with Ford CEO Alan Mulally last fall in which he spoke with obvious relish of the opportunity Ford would have once the SAAR got back up over 14 million or so. Not long ago, Ford (like the other Detroit automakers) was solidly profitable during economic booms, but was a money-loser during recessions. One of the goals of Ford's turnaround plan was to lower the company's breakeven point far enough that it could stay profitable (or at least, not lose money) during harder times, something that Ford executives felt was critical to the company's long-term survival.

Ford has obviously met that goal, having posted several strong quarters despite the subdued sales level, while also retaining the capacity to scale up production without massive capital investments. It's clear where Mulally's excitement was coming from: Given the low additional investment necessary to make them, those additional sales will be very profitable. As a Ford investor, I shared his enthusiasm.

I think there's still room for Ford and GM to grow as those companies continue their recoveries. But after that? As in so many other sectors right now, prospects for growth seem awfully cloudy.

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Fool contributor John Rosevear owns shares of Ford and General Motors. The Motley Fool owns shares of Ford. Motley Fool newsletter services have recommended buying shares of General Motors and Ford. You can try any of our Foolish newsletter services free for 30 days, with no obligation. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.

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  • Report this Comment On July 11, 2011, at 9:48 PM, baldheadeddork wrote:

    A thought provoking piece, John. You cover a lot of ground so I hope you won't mind if I go at it point-by-point.

    "...the overall vehicle sales rate in the U.S. is about three-quarters of what it was before the economic crisis -- despite the significant improvements to the economy since the dark days of early 2009."

    There has been significant improvements to parts of the economy. GDP is growing and corporate earnings are at a record level, but job creation and consumer confidence are still lagging far behind indicators for the rest of the economy, and remain significantly worse than historical averages.

    A car is a very large vote of confidence in your personal economic outlook for the next five years or more. We are seeing consumers opening their wallets again. Recent quarterly reports from the retail sector mostly exceeded expectations. But there's a difference between making even a big purchase at Best Buy and signing up to pay $400 a month for the next four or five years.

    Auto sales track macro trends on the indicators that affect individuals the most. We won't have a sustained and strong recovery until we see a sustained and strong recovery in consumer confidence and unemployment.


    'For every "expert" who thinks it simply has to -- vehicles wear out and will need replacement eventually -- I can find another who will point to the obvious counter-theory: That last decade's high sales numbers were inflated by consumers' willingness to go way into debt and the easy availability of credit."

    Willingness to take on debt gets back to consumer confidence, and I don't see a big difference between auto loan terms between then and now. According to data from the Fed, interest rates on car loans are lower now than between 2006 and 2008.

    What the crash did change is the ability to use HELOC loans to buy cars. That market is gone, but I don't see a real loss because because there are other low-cost financing options if you have even a mediocre credit score. The real and consumer psyche effects of unemployment going from 5 to 9% since 2005 is a much bigger drag on car sales.

    But the state of consumer finance isn't all bad news. Consumer debt today is lower than it's been in six years. I've always thought the "consumer binge on debt" was based more in media hyperbole than macroeconomic fact (borne out by Fed data), but regardless of how the story has been covered consumers now have less debt than they've carried since the start of 2005.

    When confidence rises and unemployment falls, consumers will be in a position to take on new car loans. That's true if those indicators turn around right now. We don't need to wait for another 2-3 years for consumers to be in a position where they can buy. All we need is the economic environment where they feel safe doing it.

    About sales being inflated during the bubble years, according to a NADA study the average age of a car registered in the US in 2007 was a record 9.2 years. Polk did a report in 2009 that put the age at 9.4 years. Newer cars are lasting longer, but even after the big numbers posted in the last decade the fleet age rose to record levels.

    Data on used car values since the 2008 crash supports this, too. They've been setting new records for the last two years. This has always been an indicator for a rise in new car sales and with the fleet age numbers I don't see how it's different this time.


    All that said, I'm as concerned about the auto industry and the economy now as I was in the spring of 2009. Thanks to these austerity morans we appear to be hell bent on creating a lost decade.

    And that might be the optimistic picture. The period we're in at this moment is the most critical since we wondered if all the big banks would fail in 2008-2009. If the imbeciles in the GOP allow the US government to default, the floor is going to drop out. Interest rates will rise significantly, not just needlessly adding billions to our debt but raising the cost of borrowing for everyone. We narrowly dodged a second great depression two years ago, but it's not too late to throw ourselves off the cliff.

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