What happened
Shares of online used car dealer Carvana (CVNA 4.44%) are soaring 25.2% from where they closed last Friday, according to data compiled by S&P Global Market Intelligence, after having crashed and burned earlier in the week.
While the used car market continues to be a wreck, inflation easing more than expected in October allowed Carvana to hit the accelerator because it suggests the cost of buying a car -- and its own cost of doing business -- won't continue to get more expensive.
Image source: Carvana.
So what
All that said, Carvana's stock is still in a ditch following its earnings report that showed sales falling, and it notched a wider than expected loss for the period.
The car dealer is actually in a difficult position. First it was caught in the downward spiral of supply chain shortages brought on by the pandemic and the resulting dearth of used cars in the marketplace. Those that were available were also very expensive.
Now that the supply chain situation is slowly resolving itself and used car prices are falling, Carvana is being battered because interest rates are rising, which will make the process of financing a used car purchase more expensive.
Carvana will also face higher costs because it uses debt to finance its expansion, so higher interest rates could have a negative impact on the high debt load it carries. The used car dealer's long-term debt has doubled over the past year to $6.6 billion -- half of which carries double-digit rates already -- while it has less than $480 million in cash and restricted cash on hand.
Yet if inflation rates are falling, it could cause the Federal Reserve to ease back on what's been an inexorable race higher for interest rates at what has been an unprecedented pace. The Fed has increased rates by 75 basis points for four consecutive periods, the first time it has ever raised them so high so quickly.
Now what
Investors shouldn't count too much on inflation being tamed so quickly. We had a period like this earlier this year, when it seemed like prices had hit their peak, only for inflation to come roaring back again.
First, just because the Consumer Price Index fell to 7.7% from 8.2% last month doesn't mean prices are falling; they're still going up, but they're rising slightly more slowly.
Second, new government spending programs like last year's infrastructure bill and the recently passed climate change bill have yet to kick in. When they do, they could ignite inflation once more, similar to when the last stimulus package was approved after the economy had already reopened.
Last, housing is expected to enter a period of free fall, and energy costs could be going back up again. Both could plunge the economy into a recession, meaning it's much too early to say the battle has been won.
All of those factors could negatively impact Carvana, meaning its gains could be short lived.
