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Why buy now if prices are going to be lower tomorrow?
That isn’t a question U.S. consumers have been asking themselves lately. Inflation has had the opposite effect in recent months. But car prices are coming down and that is creating a new problem for auto dealers such as Carvana (ticker: CVNA). It will eventually affect others in the automotive value chain.
Last week, the online car dealer reported weaker results than expected. Sales came in at about $3.4 billion, below the $3.7 billion Wall Street was looking for. Vehicles sold totaled 102,570, down from 117,564 in the second quarter of 2022 and off 8% compared with the third quarter of 2021.
Shares plunged 39% following earnings. Shares fell 16% Monday, bringing the loss so far this year to about 97%.
Management said demand for cars has cooled as interest rates rise, increasing the monthly cost of any vehicle purchased with financing. Both the weaker demand and higher borrowing costs are weighing on prices for used vehicles, which is also hurting Carvana and other auto dealers.
“Bad timing for a headwind,” wrote Benchmark analyst Mike Ward following Carvana’s quarter. He rates the shares at Hold and doesn’t have a target for the stock price.
Ward points out that U.S. used-vehicle sales dropped more than 13% in the third quarter. “A sharp decline in market prices has created a headwind for used vehicle retailers, and the trend is expected to continue into 2023,” he wrote.
When prices fall quickly, consumers pull back, expecting a better deal tomorrow, which tends to put still more pressure on prices as inventories pile up. Other industries such as housing, which also rely on financing to facilitate purchases, are facing the same issue.
In the world of automobiles, it isn’t only a problem for used-car dealers. Rental car companies such as Hertz Global (HTZ) and auto lenders such as Ally Financial (ALLY) rely on estimates of used car prices in the future to manage things such as capital spending and pricing. Volatility in used-car prices can wreak havoc on their financial results.
Prices for new and used cars are also linked. If one gets too far out of whack with the other, then buyers shift their attention to the better value until things adjust.
The good news for auto makers such as Ford Motor (F) and General Motors (GM) is that new-car sales volumes shouldn’t be affected all that much. Volumes are already low because production has been constrained by parts shortages. U.S. new-car sales should come in around 13 million units in 2022, which is roughly three million below the levels of previous years.
New cars aren’t piling up, either. Those parts shortages have left U.S. inventories of new cars at about half of normal levels.
Auto makers still have to worry about the effects of falling prices, adding to the long list of challenges for investors in the industry to consider. Ford and GM shares are down 34% and 33% so far this year, worse than the roughly 21% and 10% respective declines of the S&P 500 and Dow Jones Industrial Average.
Both shares trade for less than seven times the per-share earnings expected for 2023, reflecting some of the nervousness investors feel about the car business and the broader economy.
Write to Al Root at email@example.com