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By David Whiston, CFA, CPA, CFE | 02-16-2018 10:00 AM

Vehicle Sales Set to Fall, but GM Looks Attractive

We expect another down year for vehicle sales, but with a new truck platform on the way we see GM as undervalued.

David Whiston: U.S. auto sales have seen tremendous movement since 2007 with 2008 and '09 annual declines of 18% and 21% followed by seven straight years of annual increases for 2010-16 including back-to-back record years in 2015 and '16 of about 17.5 million vehicles. The winning streak ended last year with a 1.8% decline to just over 17.2 million. So now what?

We think things are still pretty good, but we are done growing for this cycle. Unemployment and consumer confidence are some of the most important macro indicators for sales that we look at on the auto team, and we don't see a reason to be concerned--yet. Through the end of last year the number of people unemployed has declined year over year every month since May 2010 except for a 0.2% rise in September 2016. Typically though, auto sales start to fall before the number of people unemployed rises, and the broader U-6 unemployment rate of 8.2% is just above where it was when it bottomed in March 2007, so things probably stay at best flat but more likely down from here; though tax cuts and Trump's infrastructure plan are wildcards to the upside.

Leasing is a big reason for this inflection in sales. Leasing has made up about 30% of new vehicle sales in recent years from a low of under 15% in 2010. Automaker captive finance arms started pulling back on leasing last year to protect themselves from residual value risk because we are now in an off-lease boom. Until recently there was a shortage of quality late-model used vehicles, but with the number of off-lease vehicles reaching 3.6 million last year, up from 1.5 million in 2012 and growing to over 4 million by 2020, used vehicle prices can only go down. They are expected to decline in the mid-single digit range again in 2018.

For this reason, we are looking for 2018 U.S. new light-vehicle sales in the range of 16.6-16.8 million, down from 17.2 million last year.

There's still many reasons to buy a new vehicle though, as the fleet is quite old at about 11.6 years, credit is good, and tech in vehicles is rich with 4G Wi-Fi, heads-up displays, lane departure warnings, automatic emergency braking, adaptive cruise, autopilot, Cadillac will have a new super cruise system in this year, and full display rearview mirrors from Gentex, a company I cover, that gives you a much wider view of what's behind you than in a conventional mirror. The average vehicle today of about a 2007 model year is primitive in tech and safety to a 2018-19 model year.

Americans also love their light truck models (pickups, SUVs, vans, crossovers). The light truck mix last year reached over 65% of new vehicle sales, up from 45% in 2009 and it was 68% in January of this year. For the industry, light truck sales last year rose 4.4% while car models fell 11.2% for a total decline of 1.8%. What's the hottest segment? Crossovers such as the Chevy Equinox and Traverse. Crossovers last year gained 270 basis points of market share to nearly 35% of new vehicle sales, while the midsize sedan segment, vehicles such as the Toyota Camry and Chevy Malibu, lost 230 basis points to 12.8%. All car segments lost share--nearly 4 percentage points in total. With cheap gas and consumers getting multiples times the storage space without giving up much in the way of fuel economy, we do not see this trend slowing down in 2018.

Which takes me to my best idea, GM, who just put out its new generation crossovers last year, excellent timing in my opinion. GM's now entering the sweet spot of its product cycle, 2015 sedans like the Malibu, 2016-17 crossovers, and now its time for new versions of its most profitable vehicles, full-size pickups, SUVs, and Cadillac. The new generation Silverado and Sierra come out late this year on an all-new architecture that GM will use for several generations in the next decade, saving billions in development and production costs in time. I like that GM is being more aggressive in going after more lucrative crew cab business, where its mix is trailing that of Ford, by offering eight models of the new truck up from five presently. Over time this should help close the several thousand dollar/unit price gap with Ford's F-150. This truck platform will then be used over the next few years to launch a new generation of full-size SUVs such as Tahoe, GMC Yukon, and the Cadillac Escalade.

Speaking of Cadillac, it finally gets more crossovers this year with the XT4 to complement the XT5, currently Cadillac's only crossover. There's a larger XT6 reportedly coming out next year, and a small crossover, XT3 in 2021, and the new Escalade in 2020.

GM is also this year completing its $6.5 billion gross cost reduction program relative to year end 2014 levels, and these cost cuts are a big reason why the company can keep earnings before autonomous vehicle investments relatively flat versus 2017, despite a declining U.S. industry and rising commodity cost pressures. We also love that management is $10.5 billion into a $14 billion share buyback program and pays a dividend that we think will not be touched in a downturn, currently yielding about 3.6%.

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