Shares in the auto industry have been among the leading performers over the past year, with the Dow Jones US Automobiles & Parts Index advancing 140%.
Given the massive run-up in auto equities, is there money still to be made in these stocks?
I believe the answer is yes. While easy money has been made in auto shares anticipating a recovery, there is still more to be earned.
Let's look at global auto demand picture first:
In recent months, US auto sales have recovered to around 11 million units on an annualized basis, from a low of 9.2 million units set at the depth of the recession.
Current economic indicators are forecasting economic growth in the period ahead. The Conference Board's leading economic index is up for ten straight months. The Federal Reserve’s minutes released last Wednesday show that the central bank has raised its 2010 growth forecast to 3.2% from 3.0% forecasted last fall. US auto sales can hypothetically tally 11 million to 12 million units in 2010.
Meanwhile, the outlook for auto demand in emerging markets is robust. China’s Commerce Ministry foresees double-digit growth in auto sales this year. The Indian government expects auto sales to double to 3 million by 2015. Auto sales in Brazil are expected to rise about 5% this year.
Backed by recovering demand in the US and continuing growth in the emerging markets, global auto demand is expected to increase 2% in 2010 to over 53 million units.
So what are some good ways to play the auto demand upswing?
Auto part makers are executing well. Autoliv (ALV), BorgWarner (BWA), and Johnson Controls (JCI) have exceeded analysts' EPS estimates in the recent quarter by at least 48%.
Auto part companies are following automakers into emerging markets to profit from global opportunities. Among auto part makers, Autoliv shares look attractive. Shares of the seatbelt maker trade at a low double-digit forward P/E multiple compared to the prospects of EPS nearly tripling in 2010.
Ford Motor (F) is a primary play on the recovery of the US auto industry. Ford is making progress in its turnaround. The company is likely to benefit from Toyota’s (TM) and Honda’s (HMC) recent recall of several popular models. Ford is expecting its new compact models to gain market share in the emerging markets. With Ford’s balance sheet saddled with $34 billion of auto business-related debt, its shares should carry a speculation-grade label.
While auto retailers like AutoNation (AN) and Group 1 Automotive (GPI) have taken admirable steps to cut costs, Toyota’s massive recall gets in their way of fully reaping these benefits in the short-term.
Among the other auto retailers, Asbury Automotive (ABG), Penske Auto Group (PAG), and Sonic Automotive (SAH) have limited exposure to Toyota’s problems. Here, Penske has been more consistent in its execution and merits consideration. Deriving most of its revenue from luxury brands and imports, Penske’s fortunes are tied to demand from affluent customers.
Funds and ETFs
For mutual fund investors, Fidelity Select Automotive (FSAVX) is the only investment vehicle available to play the auto industry. This fund is currently heavily weighted on auto part makers and has only 3% of assets invested in automakers.
With no pure-play auto ETFs trading, investors can to look at SPDR S&P International Consumer Discretionary (IPD), ETFS Physical Palladium (PALL), or ETFS Physical Platinum (PPLT) for surrogates. The SPDR ETF has over 25% of its holdings in Japanese and European automakers while 57% and 50% of world palladium and platinum supplies, respectively, are used in auto exhaust treatment.
Disclosure: Author is long Penske Auto Group.