Global auto OEM stocks: what to buy next

by SR on April 23, 2012

Taking the pulse of global auto stocks year-to-date

Global auto OEM share price performance year-to-date in 2012

  • Conclusion: OEMs may be done for now, look at Bridgestone & Denso
  • It’s often difficult to visualise how specific groups of stocks have moved in the recent past, let alone work out where they might go in the near future. The problem is complicated by the sheer numbers involved. In the case of the auto sector even the investable universe comes to more than 30 stocks, and these companies compete with each other in dozens of markets around the world. This is a case of the “global market” cliche accurately reflecting reality. While the majority of investors may not have a global mandate, many take a pan-regional view across Europe, or Asia or the Americas. With that in mind, I put together a compact visual summary of recent share price moves.

    The chart above (click on the graphic for a larger image) shows the percentage change in the share prices of a group of auto OEMs taking the last day of calendar 2011 as a starting point. There are a couple of small anomalies – strictly speaking Bajaj and Hero are motorbike rather than four-wheeler plays – but overall I think the stocks shown are representative of the universe that institutional investors follow. The sub-charts are shaded by country, as concentrations of colour caused by stocks from one country outperforming those of another country provide an intuitive indication as to where money has been put to work.

    No country’s OEMs dominate performance tables

    However, in the chart above the concentrations of colour just mentioned don’t exist. No one country dominates any one part of the chart. Sure, Geely is up more than 84%, but Brilliance China has only risen 1.4% since the start of 2012. The share price of Tata and Maruti Suzuki has increased by 77.5% and 51.2% respectively, but at the other end of the scale Bajaj has risen by only 7.3% and Mahindra & Mahindra has posted a gain of only 6.4%. Renault’s stock has soared by 32.4%, making it the sixth-best performer here, while Peugeot has plunged by 25.4% over the same period.

    Rather than thematic performance here, I think we’re looking at individual stock stories. Peugeot is a case in point; disappointing results together with a rights issue and a tie-up with GM that has a ton of execution risk – one can understand investors getting cold feet. Conversely, Tata’s Jaguar Land Rover (JLR) unit is posting very strong growth in sales and this is a far more lucrative part of its business than the low-cost models it sells in the domestic market.

    There is one macro issue to bear in mind as you look at the table above. Currency issues do not significantly change the shape of the table. That is, if we rebase the share prices of these stocks to US dollars and recalculate the performance, there is mostly little impact. The exception is Japan, where the move in the yen-dollar rate from 76.9 on the last trading day of 2011 to 81.6 as of last Friday flatters performance. Toyota is up 28.5% on a native currency basis but in USD terms it has risen only 21.1% year-to-date. Similarly Honda has only increased by 15.1% and towards the bottom of the table Mazda’s stock on a US dollar basis has fallen by 9.9% rather than 4.4%. Whether most fund managers really care about dollar-based performance is a matter for conjecture.

    Auto OEMs have outperformed the market as a whole

    But wait, the above discussion only covers the performance of auto OEMs relative to each other. What about the performance of autos as a global sector group? Have they done better than the nominal ‘global market’? That’s a difficult one to answer definitively but we can work round it as follows. The chart below shows the performance of the major global market indices over the same period (i.e. from 30 December 2011) as that used to measure the global OEMs. (Click on the graphic for a larger image.)

    Global market index performance year-to-date in 2012

    One could argue for the use of MSCI sector indices here, but I don’t have that time series data and would not be allowed to redistribute it even if I did have access. The median change in price for the global OEMs presented in the first chart is +16.4% and I reckon that the MSCI auto index will not be far off that level. Once you exclude Brazil, the FTSE and Australia, the median change for the market indices shown in the second chart is +10.5% year-to-date. This is a pretty crude way of looking at things but I think it’s a helpful sanity check. Overall, it looks like auto stocks have meaningfully outperformed their markets globally. Would I chase strength here? No. I would look elsewhere in the supply chain.

    What to do about it: parts & tyres

    Specifically, where should we look? First, I find that fund managers usually regard auto parts and related stocks as second-derivative plays of the main auto theme. That is, if they think the auto industry is looking healthy they buy auto OEM stocks first and auto parts when they think auto OEMs are running out of steam. In this case, Denso – Toyota’s largest supplier and indeed the largest listed parts company anywhere – has risen by only 20.8% YTD compared to 28.5% for Toyota itself.

    At first glance Toyota’s outperformance relative to Denso may seem sensible because Toyota benefits more from the weaker yen than its parts suppliers. Still, I would argue that the parts suppliers will be the true beneficiaries of the very substantial year-on-year increase that I expect to see in Toyota’s production. Auto production is what drives sales for the auto parts guys, not Toyota’s sales, so I do expect the suppliers to post a higher rate of revenue growth in 2012 than OEMs like Toyota and Honda.

    Interestingly, Aisin Seiki’s share price has increased by 27.6% YTD, a pretty solid improvement over Denso’s +20.8% YTD over the same period. I have found that domestic sector analysts and fund managers love Aisin Seiki. It’s a simple story: Volkswagen is a big customer, VW is doing well in China, automatic gearboxes are a “value capturing” niche with a rate of growth exceeding that of the auto market blah blah blah. Nevertheless, Aisin Seiki has historically had lower margins than Denso and I see no reason for that to change, in addition to which the China auto market is hardly flavour of the month. I expect that outperformance relative to Denso to unwind over the next three months.

    The other place to look is tyre stocks, with Bridgestone being the obvious play. (I think you probably want to avoid Michelin, Continental and Pirelli for now, considering their substantially higher exposure to the European tyre market.) At the risk of sounding like a broken record, natural rubber prices look likely to come in much, much lower in 2012 than in 2011 and this will have a significant positive effect on tyre company margins. Yes, oil prices have been on the up, but this affects synthetic rubber, prices for which are far less volatile than those for natural rubber. On the subject of which, note this daily chart of natural rubber prices.

    Thailand natural rubber prices RSS3

    One reason for that relative lack of volatility – in Japan at least – is that synthetic rubber purchasing is conducted mostly on a business-to-business basis rather than in the spot market and those B2B relationships date back many decades. Rubber suppliers are reluctant to ding the tyre suppliers because they have long memories that include the pain caused by price pressure on synthetic rubber during industry down cycles. It was interesting to note that despite high oil prices Showa Denko has struggled to pass on to its clientele higher naphtha prices, indicating that customers are not taking it lying down. In short, at this point natural rubber is what matters, not synthetic. Meanwhile, tyre prices remain buoyant, as this chart of the CPI for tyres shows.

    US tire CPI (to March 2012)

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