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As more capacity comes online and low payments pull purchases forward, now could be the time to reduce exposure

Ford Motor Company (NYSE:F) has posted nearly 12% margins and General Motors Company (NYSE:GM) has posted 9.2% (excluding recall costs) for the second quarter while seasonally adjusted annual rates (SAAR) have passed 17 million, setting new highs for SAAR value. But Morgan Stanley analysts Adam Jonas, Ravi Shanker, and Paresh Jain argue that now is a good time to start selling major auto companies because these numbers could be borrowing from future demand.

"We get asked about the possibility of 18, 19, even 20 million SAAR on a daily basis now… the US auto cycle has clearly moved from a 'need to buy,' to an 'I just want to buy' type of consumer mindset," they write in July 29 report. "Forgive our contrarian instincts if this alignment of factors makes us want to head in the opposite direction."

Auto industry: Low payments could be stealing future demand

The reason they see problems on the horizon is that current sales are getting pumped up by low monthly costs. It's not just that interest rates in general are low, extended loan maturities and higher residuals (which make it cheaper to lease) are both being used to keep payments low and move stock.

"Consumers buy cars like they buy houses - lower payment, bigger car. There is a dark side to all this," write Jonas, Shanker, and Jain.

Last quarter's margins are partially due to 90% - 95% capacity utilization, which isn't going to last with new capacity coming online in the next few years. The Morgan Stanley report estimates that 130% of the North American capacity reduced through 2010 because of the recession will be back by 2016, while Ford, Toyota Motor Corp (ADR) (NYSE:TM), and Volkswagen AG (OTCQX:VLKAY) are all talking about higher capex spending.

Finally, they see risks to the auto industry in China after an antitrust campaign caused Jaguar Land Rover to cut prices by 5% - 10%, followed by Audi's decision to reduce spare part prices in China by more than a third.

"We expect similar voluntary downward adjustments for prices of GM and Ford products offered to Chinese consumers, currently at a significant premium to US prices," they write.

Auto Industry: Autonomous car/software plays

While they recommend reducing exposure to mass market auto manufacturers, Jonas, Shanker, and Jain see room for a play on high tech suppliers as autonomous cars become a more important part of the market. Automation is already on the upswing, and they expect to see big shifts in the industry as software becomes a bigger component of a car's value. They recommend Delphi Automotive (NYSE:DLPH), TRW Automotive Holdings (NYSE:TRW), and BorgWarner Inc. (NYSE:BWA) as strong secular picks.

Editor's Note: This article discusses one or more securities that do not trade on a major U.S. exchange. Please be aware of the risks associated with these stocks.

Source: Morgan Stanley: Auto Industry Is Peaking