Us Car Sales Collapse In September (2)

The Firecracker Report September 28, 2009 Why Ford CEO’s “U.S. Car Market in a V-shaped Recovery” Thesis is WRONG In a recent interview Ford CEO Alan Mulally sounded the V-shaped recovery optimism gong. According to him U.S. car sales, after reaching a multi-year rock bottom in 2009 of an estimated 10.5 million units, will begin to stage a rapid recovery reaching 12.5 million in 2010 and 14.5 million units in 2011. That is a 38% growth rate over the next 2 years! Is this possible or is he smoking the hope joint? Let us examine the facts: Car Sales have Fallen off a Cliff. Despite the government subsidy tonic and the V-shaped recovery drumbeats, 2009 is setting up to be a record bottom in car sales. As shown in the chart below, U.S. car sales have collapsed a staggering 35% from a seasonally adjusted annual rate (SAAR) of 16.1 million units in 2007 to an expected SAAR of 10.5 million units in 2009.

Source: Deutsche Bank, Ward Auto. Post Cash for Clunkers September Car Sales Have been Dismal. After a brief, cash for clunkers extravaganza in July and August, car sales in the U.S. are rapidly trending down again. In a recent CNBC interview, GM CEO Fritz Henderson revealed that industry wide U.S. car sales have weakened substantially in September. Sales are set to drop to a SAAR of 9 million units (estimated) in September from the cash for clunkers fuelled high of 14.1 million in August. At these levels September sales would be the lowest since April 2009 (see chart below).

1

http://firecracker-report.blogspot.com

Source: Deutsche Bank, Ward Auto. In fact, car sales in the U.S. are likely to remain low over the next several months as the cash for clunkers program pulled in demand from the future. Given that GMs breakeven point is 1.8 million units annually (so far they have sold 1.38 mm), it is no wonder that GM has panicked into launching its next extravaganza a “60 day satisfaction guaranteed or your money back program”. As Karl Denninger points out, why rent from Hertz when you can get a GM vehicle free for 60 days? And if this grand plan does not work out, no worries, GM can try doling out even more freebies. After all in this tax payer funded post-bankruptcy world what does GM have to lose? Past Years Car Sales were a Bubble Created by Cheap Financing. For the last decade, Americans bought cars like candy and why not? Every year car companies would unveil a mind-boggling parade of gas guzzling models (remember the Hummer), encouraging people to trade up and they did. Americans began to change cars as often as they changed clothes. From 2000-2007, car sales ballooned to 16-17 million vehicles a year. A recent Vindy.com article titled Car-buying habits are Changing, captures this bubble fueled era noting that, “During the boom years, almost anyone qualified to buy a new vehicle. Zero percent financing on purchases and cut-rate deals on leases kept monthly payments low and encouraged people to trade every three or four years”. And given that 60% of Americans take out a loan to buy a car, how exactly was this madness financed? On the cheap of course. People were encouraged to take out a second mortgage on their home, or a home equity line of credit (HELOC). According to Synergistics Research Corp, in 2006 almost 24% of car and truck purchases were financed with a HELOC. The remainder of car loans that were bank financed were quickly bundled off as 2

http://firecracker-report.blogspot.com

securitized loans to investors. With a booming housing market, low mortgage rates, thanks to Greenspan low interest rate policy of the early 2000’s, and a rapidly expanding securitization market, cheap financing was plenty. So Does the Future Look as Good as the Past? Not in a million years. The Bubble fuelled car sales numbers of 2000-2007 now look to be permanently relegated to the rearview mirror. Since March 2009, amidst all the cries of a V-shaped economic recovery and a booming stock market, car sales have lagged badly. For almost all months of 2009, with the exception of July and August U.S. car SAAR has been stuck in the mid to high 9’s, their lowest levels in a decade. Now that the July-August cash for clunkers is gone, car sales are trending back to their low 9’s trajectory. In our mind there are three crucial factors that put a serious wrench in the V-shaped recovery thesis for car sales: 1. High Unemployment to Persist Well into 2011: The official U.S. unemployment rate currently stands at 9.7%, while the real unemployment rate U-6 has hit 16.8% and both are expected to rise much further. According to Paul Krugman, the Nobel Prize-winning economist unemployment in the U.S. will not peak until early 2011 because of a slow and painful economic recovery. Additional support for the high unemployment thesis comes straight from the horse’s mouth, Atlanta Fed chief Dennis Lockhart. In a recent speech he stated that prior to the recession, construction and manufacturing combined accounted for slightly more than 15% of employment. But during the recession, these job losses made up more than 40% of all US job losses. He went on to say "In my view, it is unlikely that we will see a return of jobs lost in certain sectors, such as manufacturing". So if folks don’t have jobs where exactly is the demand for cars going to come from? 2. Real Estate Sector no Longer a Source for Credit. Over the last decade almost a quarter of car sales were financed using home equity lines of credit. Today such credit is scarce, because many households have no equity left in their homes. Zillow.com reports that about 25% of U.S. homeowners are underwater on their mortgage and this figure will rise to 30% by mid-2010 with increasing job losses and foreclosures. In addition, banks reeling from bad debt on their balance sheets have tightened credit substantially. With a glut of inventory from foreclosures coupled with weak consumer demand and tight financing, home prices are not going to attain their bubble heights for a long time. So home equity extraction will remain severely constrained. 3. Securitization market is dead. Not even TALF can bring it back to Life. Car loan securitization was a critical vehicle in maintaining a steady stream of cheap financing available. As investors bought securitized car loans, it freed up capital for banks/finance companies to make new loans to consumers. Since the collapse of 3

http://firecracker-report.blogspot.com

Lehman Brothers in September 2008, the securitization market has completely dried up. The Fed initiated the TALF program to jumpstart the securitization market but so far its progress has been poor. In 2006 issuance of securities backed by auto-loans, credit card loans and student loans stood at $750bn. Today, with the private securitization markets dead, the Fed initiated TALF is the only game in town. So far this year the TALF uptake has been a mere $100bn. This number is so low that even Bernanke has had to admit that going forward the securitization market will be a shadow of its former self and will “probably not return to the size it was before”. In the face of a consumer that is rapidly downsizing and a shrinking auto financing market we believe that it would be very hard if not impossible for the U.S. auto market to stage a rapid recovery. Hope is NEVER a good strategy Mr. Mulally.

Global Disclaimer The contents and data of The Firecracker Report are published solely for general information purposes only and do not constitute financial recommendation or advice. The content of this report is not to be construed as a solicitation or an offer to buy or sell any securities or related financial instruments in any jurisdiction. The author(s) of the Firecracker Report are not licensed investment advisors. Thus, the Firecracker Report does not give investment advice and does not advocate the purchase or sale of any security or investment by you or any other individual. It is understood that investment decisions carry risk and are the responsibility of individuals and their professionally licensed investment advisors. Investors should exercise prudence in making their investment decisions. This report should not be regarded by recipients as a substitute for the exercise of their own judgment. The author(s) of The Firecracker Report may or may not have a position in any company, commodity or asset referenced in the report. Any action that you take as a result of information or analysis in this report is ultimately your respo nsibility. Consult your investment adviser before making any investment decisions. The Firecracker Report does not guarantee the accuracy, completeness, timeliness, suitability, or validity of any published information and will not be liable for any errors, omissions, or delays in this information or any losses, injuries, or damages arising from its display or use. All information is provided on an as-is basis.

4

http://firecracker-report.blogspot.com