2018 Off to a Fast Start for Auto Stocks, Until Early February

The Kerrigan Auto Retail Index was up 11.93% for the month of January, more than double the S&P 500 Index, which increased 5.62%.

Naturally, the stock market is correcting in early part of February, in part due to fears of interest rate hikes and creeping inflation.

Each component stock was up for the month of January. AutoNation posted the largest gain of 17.32%, followed by Sonic Automotive (+16.80%), Asbury Automotive Group (+13.52%), CarMax (+10.90%), Group 1 Automotive (+10.54%), Lithia Motors (+10.01%), and Penske Automotive Group (+9.07%).

The big upswing appeared to be tied to macroeconomic news and increasingly positive views on employment, wage growth and consumer spending, as well as the stimulative effects of the tax reform enacted the last week of December.

In contrast to most industry projections, January vehicle sales increased 1.2% relative to last year, led by increases at Toyota, Nissan and General Motors. It was the fourth best January on record for vehicle sales – January is historically the weakest month for sales volume due to weather conditions and post-holiday sales. Of note, fleet sales played a more dominant role in January sales and contributed to the higher sales rate for the month.

Accompanying the strong US economy and stable car sales, there are three cautionary trends that are expected to influence auto retail stocks in 2018. First, incentive spending by OEMs remains a major source of concern, calling into question the sustainability of current sales levels. According to Thomas King, Senior Vice President of the Data and Analytics Division at J.D. Power, “The challenge in 2018 will be maintaining incentive discipline, coming off a year when incentive spending per unit reached the highest level ever recorded.” Average incentive spending through the first two weeks of January was $3,733, up $94 from the same period last year and on track to set another record high.

Second, the Trump administration’s unconventional trade agenda adds uncertainty to the automotive sector. According to Jeff Schuster, Senior Vice President of Forecasting at LMC Automotive, “The wildcard for the year is NAFTA. If the U.S. withdraws from NAFTA, economic growth will likely be reduced, the stock market volatility will increase and consumer goods, including vehicles, will likely increase, causing a more pronounced pullback in vehicle demand in the second half of 2018 and into 2019.”

And, finally, rising interest rates and the prospect of tightening credit. “Tightening credit is the most important issue to watch”, said Jonathan Smoke, chief economist at Cox Automotive. “U.S. car dealers will sell more vehicles this year, but not on the new-vehicle side.” Smoke expects higher interest rates and tighter credit this year will drive many consumers to buy a used vehicle instead of a new one. Most of those buying used cars will be millennials, who are often saddled with student loans and remain credit challenged, he said. Also, dealer floorplan expense will rise in 2018, putting additional pressure on dealership profits.

Not withstanding these concerns, The Kerrigan Index started 2018 with a very strong January, significantly outpacing the overall equity markets.

Category: General Update, News