Hurricane Harvey Surge-Nado: Auto SAAR Soars To 30-Year High On Hurricane Replacements

Last month, when we reported auto sales data, we noted that this month would be all about replacement demand from Hurricane Harvey and thus largely irrelavant.  Fast forward 30 days and that appears to be exactly what has happened as annualized auto sales for the month of September suddenly surged to a 30-year high of 18.5mm units, up 15.2% sequentially from a 16.0mm run-rate last month.

That is, of course, unless you believe CNBC"s Phil LeBeau who took to the airwaves earlier today to argue that a substantial portion of the sudden surge in auto sales was not necessarily attributable to the fact that a couple hundred thousand cars were destroyed in last month"s hurricanes but rather just a reflection of an abrupt rebound in consumer demand after months of weak data...

...once you"re done with the laughing fit we can continue to review this month"s auto data...

Not surprisingly, almost every OEM, with the exception of Fiat Chrysler, managed to post a significant YoY increase in sales courtesy of Hurricane Harvey.  The only surprising takeaway was just how wrong wall street was in their estimates for the quarter.

Meanwhile, per the charts below from Stone McCarthy, the transition from cars to trucks continued during September with car sales dropping 2.8% YoY versus and 8.1% increase in truck sales. 

All of which likely contributed to Ford"s announcement after the close today suggesting, among other things, a shift in future capital allocation to increased production of SUVs and trucks away from cars...which should be complete right about the same time that oil prices spike back to $100 per barrel rendering those SUVs/Trucks completely unaffordable again.  Here are the highlights from Ford"s press release:

Accelerating the introduction of connected, smart vehicles and services customers want and value. By 2019, 100 percent of Ford’s new U.S. vehicles will be built with connectivity. The company has similarly aggressive plans for China and other markets, as 90 percent of Ford’s new global vehicles will feature connectivity by 2020.

Rapidly improving fitness to lower costs, release capital and finance growth. Ford is attacking costs, reducing automotive cost growth by 50 percent through 2022. As part of this, the company is targeting $10 billion in incremental material cost reductions. The team also is reducing engineering costs by $4 billion from planned levels over the next five years by increasing use of common parts across its full line of vehicles, reducing order complexity and building fewer prototypes.

Allocating capital where Ford can win the future. This starts with the company reallocating $7 billion of capital from cars to SUVs and trucks, including the Ranger and EcoSport in North America and the all-new Bronco globally. Ford also has plans to build the next-generation Focus for North America in China, saving capital investment and ongoing costs. Further, Ford is reducing internal combustion engine capital expenditures by one-third and redeploying that capital into electrification – on top of the previously announced $4.5 billion investment.

Of course, with this non-recurring, one-time surge in demand helping to offset the industry"s pesky inventory crisis (per table below GM was able to reduce inventory MoM by over 70,000 units), the question now becomes whether OEMs will maintain some discipline and restrict production to reflect a normalized SAAR environment or if they"ll just flood dealer lots all over again...we have a guess.

Of course, while today"s results were largely just noise, shareholders still loved the headlines...

What Will Stabilize Used Vehicle Sales? (Hint: Nothing Good)

Authored by Daniel Ruiz via Blinders Off blog,

Until this point, a lot of what I"ve shared with you is theoretically based on my knowledge and experience of used vehicle values and how I believe they affect new vehicle sales velocity. Today, I am going to share some some hard data that I"ve been researching with a great deal of effort.

I genuinely believe that used vehicle values have a very significant effect on new vehicle sales velocity. I have explained it on Twitter and on a previous blog post through the concept of trade cycles. Because of this, I am certain that used vehicle values can be used as a leading indicator for inventory management at the manufacturing level, at the retail dealer level and certainly as an investment tool. However, I humbly hold that current used vehicle value indexes sources are not good enough.

There is a very specific group of vehicles that can be monitored in order to better project results. The Manheim and NADA index both have too much noise in the data. For example, the Manheim Index has no model year restrictions and includes new vehicle price inflation in the calculations. NADA goes up to 8 model years. Both average the data over multiple months and include vehicles which, in my opinion, have little to no impact on new vehicle sales velocity. Therefore, I have decided to make my own index.

For now, I"m going to use Ford as an example please ignore the red residual line until later.

I have said numerous times that passenger vehicles are at a different points in the value cycle than trucks and SUVs.

This is common knowledge at this point, and most have placed their faith on trucks and SUVs. This includes manufacturers shifting production and rental car companies changing their fleet mix to the better performing SUV and truck sector. Most analyst are looking at fuel prices to mark the top of the SUV and truck market. Here"s what they"ve missed:

Here"s WHY this matters:

Now back to residuals. What I want to drive home, in simple terms, is that assuming no change in demand, supply precedes price changes. When used vehicle values underperform residual values, the return rate of leases goes up. The opposite is also true. Less vehicles returned means less auction volume supporting higher prices. More vehicles returned means more auction volume supporting lower prices. Look at the charts again and note the acceleration of used vehicle value declines when used vehicle values fall below residual values. So where do we stand today? You tell me if this looks supportive of higher used vehicle values:

You might wonder what will stabilize used vehicle values going forward. Consider this, a used vehicle is nothing more than a new vehicle transaction that drove off the dealer"s lot.

The answer, years of declining new vehicle sales and we are just getting started.

If you feel that my insight might be a useful part of your investment decisions in the automotive sector, I offer phone consultations as well as in-person presentations through GLG.

Carmageddon Continues - Dealers "Wildly Overweight" SUVs As Sales Slow

Authored by Mike Shedlock via MishTalk.com,

The auto boom, one of the key components propping up consumer spending, has come to an end.

Dealers are wildly overweight SUVs just as the market turned.

As auto-industry growth stalls and family sedans go the way of the flip phone, one silver lining had been the trusty “crossover” SUV. Sales in the category boomed amid lower gasoline prices and higher demand for spacious wagons with all-wheel drive.

But more clouds seem to be gathering as the summer car-selling season comes to an end. Incentives on SUVs are skyrocketing amid rising inventories, a trend that promises to dent the fat profits the segment has long returned.

Auto makers report sales on Friday, and August volume is expected to rise 2% compared with the same month in 2016, but only because dealers have an extra selling day this year. On an adjusted basis, the rate of retail sales—stripping out deliveries to fleet buyers—will hit the lowest point of 2017, according to J.D. Power, despite hefty sales incentives and new model offerings.

The U.S. auto market’s slowdown isn’t a new story, as analysts widely expected a seven-year growth streak to end and for sales to plateau at roughly 17 million a year for the foreseeable future. Red flags for the crossover market, however, represent a whole new set of headaches, particularly for companies like General Motors Co.

“The industry is wildly overweight on crossovers,” John Murphy, an auto analyst for Bank of America Merrill Lynch, said in a recent presentation. The number of crossover models sold in U.S. dealerships is expected to rise to 110 nameplates by late 2020, up from 78 today, he estimated.

Auto makers like GM—long dominant in the SUV market—have relied on bigger or heavier vehicles with higher price tags to drive profits, and offset the losses that result from sales of family sedans or compact cars. But in the first half of 2017, incentives for SUVs shot up 33%, according to research website Edmunds.com, with the average discount or rebate in the segment reaching $3,200.

Ford Motor Co. is currently offering a $3,500 cash rebate on the Ford Escape, along with 0% financing for 72 months. A Ford spokesman said the SUV market is “increasingly competitive,” noting average transaction prices last month fell $400 compared to a year earlier.

Economists Expect Plateau

At every peak, economists expect a “plateau”, be it the stock market, the housing market, or cars.

Reasons to Expect a Crash

• Self-driving features are on the way and many people will wait for them


• Lots of retiring boomers purchased their last car


• Anyone who bought with long-term financing in the past few years is deeply underwater, making trade-ins difficult


• Auto sales are increasingly subprime


• After years of record sales, who needs a newer car away?

Vehicles account for 20% of retail spending. A crash or even a significant slowdown will impact retail sales and thus GDP.

Hertz - The Final Nail In The Coffin

Authored by Daniel Ruiz via Blinders Off blog,

As a disciplinarian in the automotive sector, my focal point is concentrated on the study of used vehicle values and how they affect the automotive industry as a whole.

Measure the Cause to Predict the Effect

There are several subcategories that help predict the trajectory of used vehicle values that I use as leading indicators. For example, there is a very strong correlation between the performance of Hertz stock and used vehicle values. In June, while the stock was trading at multi-year lows due to excessive pessimism, I witnessed used vehicle values begin to stabilize. I also noticed the amount of vehicles available from Hertz at auction fall drastically. These events made me believe that a strategy change was at hand. Was Hertz reducing the size of their fleet as they have in the past during difficult times? Would Hertz focus on better utilization rates and other cost saving measures? My suspicions proved to be correct. The benefits of stabilizing used vehicle values plus fleet management changes will likely be felt through the end of Q3.

The reduced volume of rental vehicles at auction has supported higher used vehicle values. Additionally, falling new vehicle retail sales increase the demand for used vehicles. Fewer new vehicle sales result in fewer used vehicle trades forcing dealers to acquire more used inventory at wholesale auctions.

However, I believe the factors currently supporting used vehicle values are transitory, and we should consider what comes next.

Poor Residual Performance Prompts A Change In Fleet Mix

Base trim levels and underperforming passenger vehicle values were identified by Hertz as part of the reason for the excessive per unit monthly depreciation levels experienced in Q1 and Q2 of 2017. The fix? Purchase vehicles with more options, reduce the amount of compact cars and add more SUVs.

This is where it all goes wrong. Higher trim levels are accompanied by higher cost. Assuming that the added cost will be recuperated when the vehicles are retired should not be expected. This is because added options do not depreciate at the same pace as the base value of a vehicle. To use a simple example, a navigation system with an added cost of $2,000 in a new vehicle will only add about $500 of additional wholesale value. The same applies for upgraded stereos, sunroofs, etc. However, the available wholesale and retail supply of a vehicle in a specific trim level is more important than the trim level itself. As the concentration of any vehicle in a specific trim level grows, it will experience pricing pressure. To date, the damage done by Hertz and other rental companies when vehicles are retired en masse has been limited entry level vehicles. When higher value assets experience pricing pressure, they put pricing pressure on all related lower value assets. When these higher trim level vehicles are retired, more pricing pressure will be felt in the used vehicle market because in essence, Hertz has taken one step up on the asset value ladder.

Higher trim levels were not the only change to the fleet. Hertz, like many others experiencing the accelerated depreciation in passenger vehicles, has chosen to seek the safety of the better performing SUV segment. The compact car portion of the fleet was reduced by 5% and replaced with more expensive SUVs. The timing of this decision could not be worse. I have been very vocal about the misconception that the truck and SUV market is healthy. Trucks and SUVs are in a different cycle than passenger cars, but the values have already peaked and will continue to fall for the next 2 to 3 years. SUVs are more expensive than passenger cars, so the losses will be greater.

We’ve Been Here Before

During the 2008 and 2009, Hertz faced a very depressed used vehicle market. In response to the difficult market conditions, they decided to reduce their fleet size and keep the vehicles longer as stated in this New York Times article. During this difficult time, the peak depreciation per unit reached $332 (2009).

In Q1 of 2017, Hertz reported a depreciation rate per unit of $348 and the most recently, a depreciation rate of $353 for Q2.

In response to the rising per unit cost due to weakening used vehicle values, Hertz has decided to reduce the size of its fleet once again.

More importantly, Hertz has committed to only half of the new vehicle purchases thought to be necessary in 2018 as they cautiously measure the demand and the strength of the used vehicle market going forward. If used vehicle values continue to fall (as I fully expect they will), a very similar scenario to 2009 is possible allowing new vehicle sales into rental to fall drastically.

This has very negative implications for manufacturing when you consider that new vehicle sales into rental represented a little more than 1.8 million units in 2016.

The last time this happened for Hertz the story had a happy ending. The peak of monthly depreciation per unit in 2009 also marked the bottom of the stock price declines.

This was largely due to used vehicle values rebounding strongly which provided them with a seller’s market when their aging fleet needed to be retired.

What’s Different This Time?

Unlike 2009 when the US government intervened with Cash for Clunkers and the lowest interest rates in history, I don’t foresee a catalyst that will boost or even stabilize used vehicle values for the next 2-3 years. Most important of all, in 2009, when the depreciation for rental vehicles was at its peak, new vehicle sales had been declining for three years: A used vehicle is little more than a new vehicle that is sold then driven just beyond the curb. Weak new vehicle sales for a prolonged period of time created a shortage of late model vehicles with low mileage.

Last year was a record setting year for new vehicle sales. We have not experienced a sufficient decline in new vehicle sales which will be necessary to balance the supply of used vehicles. Similar to the 2008 period, I expect that Hertz will have to keep their current fleet longer than expected due to further used vehicle value declines. However, a fleet can only be allowed to age for so long due to higher wear and tear costs like tire and brake replacement. In conclusion, Hertz has surpassed the previous peak in per unit depreciation and now has to weather a 2 plus year declining used vehicle value storm with a more expensive mix of vehicles.

The greatest challenge for Hertz is not behind, it lies ahead, and it’s one that they may not be able to survive this time.

US Auto Dealers Forced To Rent First "Overflow Lots" In 37 Years Amid Inventory Glut

Yesterday we noted that GM launched an aggressive incentive program in the month of February to clear out some of its pickup truck inventory.  In fact, incentives on the company"s Silverado were up 56% YoY to $6,996, while discounts on the Sierra were up 82% to $5,315 (see "GM Pickup Incentives Surge Over 80% As Auto Bubble Continues To Show Signs Of An Imminent Bust"). 

But apparently GM isn"t the only auto OEM who may have had to splurge on incentive spending in February to clear out inventory piling up on dealer lots.  Inventory days across the industry are up massively YoY and stood at 85 days at the beginning of February, up 22 days from January 1st and up 8 days compared to the same time last year.  As one Honda dealer told Bloomberg, the inventory pile up at his dealership has become so excessive that for the first time in 37 years of business he was forced to rent an overflow lot to park unsold cars in February.

For the first time in his 37 years working at New Jersey car dealerships, Larry Kull had to rent extra space to store unsold new Honda vehicles -- one of the latest signs that the record U.S. auto market is cooling.

Across dealer lots in America, inventory is piling up as automakers produce more cars than are being bought. Dealers had about 85 days worth of cars and trucks on hand at the beginning of February -- about 22 days more than at the beginning of 2017 and eight days more than a year earlier, according to Automotive News Data Center.

“The sales are good, I just have more product on the ground than I’ve had before,” said Kull, who has about 60 days of passenger cars including Civic compacts and Accord sedans stocked at an office parking lot down the road from his Honda store in Marlton, New Jersey. He prefers to have just 45 days worth of cars on hand.

Meanwhile, this news comes just as wall street prepares to digest new car sales data tomorrow.  Overall sales for February are expected to be down slightly while GM is expected to perform "best"  among the D3 on their massive incentive spending (though we"re not sure it"s much of a victory if you"re giving the cars way).

And the import brands are expected to have mixed results as well with VW benefiting from an easy YoY comp associated with their emissions scandal that effectively halted sales a year ago.

As we noted yesterday, there are only two ways to deal with the rising inventory conundrum: i) cut production or ii) splurge on incentives to sell more cars.  Unfortunately, financing terms for autos are about as loose as they can get and interest rates are now headed in the wrong direction so selling more cars the old fashioned way seems unlikely. 

Production cutbacks also have already begun. GM and Fiat Chrysler have eliminated shifts, laid off employees or scheduled days off early this year at plants making slower selling models including the Chevrolet Cruze compacts, Chrysler Pacifica minivans and Buick Lacrosse sedans.

While heavy inventory is a signal of potential pressure on automakers’ profits, it also boosts costs for dealers, which pay interest on inventory as well as any extra expense to store vehicles.

“No one likes to cut production or dial up incentives, and we’re seeing a bit of both,” Thomas King, an analyst with J.D. Power, said by phone. “We’ve got a lot of cars on the ground when the market is moving away from cars.”

Meanwhile, as one dealer points out, part of the inventory problem is a heavy mix towards cars when buyers are now looking to take advantage of low fuel prices and trade up to an SUV.

Raj Murjani, a sales manager at a Lexus dealership in Queens, said he’s selling about 40 or 50 fewer vehicles than usual this month. He sees the gap in popularity between SUVs and sedans continuing to widen, as low gasoline prices encourage consumers to switch to bigger vehicles.

“If it’s a person who’s been in a sedan and they got just the slightest taste of an SUV, they don’t ever want to go back,” he said. “They think going back into a sedan is a downgrade.”

Of course, we"re sure each of these buyers has done extensive modeling on the long-term equilibrium price for crude oil...

Fiat Chrysler To Invest $1 Billion In The US, Add 2,000 Jobs

Suddenly the coolest thing in corporate America is announcing major capital investments in the US while adding thousands of American jobs, in other words the opposite of the globalization trend of the past 30 years, in yet other words, doing precisely what Donald Trump demands. The latest to jump on the bandwagon is none other than Fiat Chrysler, the Italian carmaking giant which ironically acquired US automotive icon Chrysler"s assets after just a 42 day stay in bankruptcy during the financial crisis.

Just days after Ford scrapped plans to build a $1.6 billion plant in Mexico and invest $700 million in a factory in Michigan, following threats from Trump aimed at General Motors to focus on the US instead of Mexico which would be repeated just days later targeting Toyota, Fiat Chrysler (FCA, or Fiat) on Sunday said it will invest $1 billion to modernize two plants in the U.S. Midwest and create 2,000 jobs, in an attempt to placate the president elect as well as upping the ante as automakers respond to threats from President-elect Donald Trump to slap new taxes on imported vehicles.

Fiat announced that a plant in Warren, Michigan, near Detroit, would make the Jeep Wagoneer and Jeep Grand Wagoneer SUVs, while a Toledo, Ohio, factory would produce the Jeep pickup. The company said the production plans in Ohio and Michigan were "subject to the negotiation and final approval of incentives by state and local entities." 

That said, Fiat"s ulterior motives did not end with merely avoiding Trump"s wrath.

As Reuters adds, FCA"s announcement that it would retool factories in Ohio and Michigan to build new Jeep sport utility vehicles, including a pickup truck, and potentially move production of a Ram heavy-duty pickup truck to Michigan from Mexico, also highlighted the auto industry"s keen interest in getting relief from tough fuel economy rules enacted by the outgoing Obama administration. Many automakers plan to use the annual North American International Auto show in Detroit, which started on Saturday, to tout investments in the United States and a commitment to U.S. employment against the backdrop of Trump"s criticism of automakers for shipping vehicles into the U.S. from Mexico.

Automakers are girding for rounds of questions about Mexican investments and U.S. jobs in the wake of Trump"s harsh criticism of automakers.

Most of the major automakers in the U.S. have substantial vehicle making operations in Mexico, as well as complex networks of parts makers that supply their factories in the U.S. and support jobs and investment in states such as Ohio and Michigan.

Reuters adds that Fiat"s investment decision was not related to Trump"s recent attacks Ford,General Motors and Toyota for building cars for the U.S. market in Mexico, as the company had already signaled plans to expand truck and SUV production at its U.S. plants, and discontinued production of small and medium-sized cars in two U.S. factories.

And while it is likely that Fiat execs did not discuss the company"s plans with the president elect ahead of time, according the Reuters source Fiat CEO Marchionne wanted to get out the news about adding jobs and investment in the United States in case FCA encounters more criticism from Trump.

And that"s how Trump"s Twitter "bully pulpit", politically incorrect as it may be, gets the job done: in Reuters" words, "since Trump"s election, automakers and other companies have played up their investments in the United States." It"s almost amazing how a few well-timed threats can get companies to reevaluate their capex hurdle rates...

It"s not just the Italian who are eager to placate the president elect.

According to Reuters, Hinrich Woebcken, CEO of the North America Region for the scandal-ridden German automaker Volkswagen AG, the automaker plans to invest $7 billion in the United States between 2015 and 2019 and will start building its new Atlas SUV in Tennessee later this year. Volkswagen has had a plant in Mexico for 50 years and it is not shifting any jobs to Mexico from the United States. "We do not make our investment decisions based on administrative cycles. Our business is really an 8-, 12-, 14-year horizon when we look at investments," Woebcken said on the sidelines of the Detroit auto show.

Right... but just in case, it never hurts to make such a strategic announcement just as Trump is unleashing all the fury of the US manufacturing class on automakers, both foreign and domestic.

A bigger question is whether Fiat is not doing a bigger mistake by focusing on SUVs and pickups at the expense of sedans just as gas prices are set to rise again. U.S. consumers have increasingly shifted toward SUVs and pickup trucks and away from sedans in recent years, as gasoline prices have remained relatively low. A year ago, Marchionne said FCA would cease production of two sedans and focus on SUVs and pickups.

In an example of verbal foreplay that would make a Chinese concubine blush, Marchionne touched on almost everything that was relevant in Fiat"s decision, except, well, what was relevant when he said in a statement on Sunday that the lineup changes were due to that consumer shift. "We continue to reinforce the U.S. as a global manufacturing hub" for SUVs and pickup trucks, he added.

And surely Trump"s fire and brimstone-spewing twitter altar had absolutely nothing to do with it...