Next week’s monthly car sales figures will go a long way toward setting sentiment on stocks in the auto sector, but even if they’re wobbly, shares in Ford Motor Company (NYSE:F) and General Motors Company (NYSE:GM) already reflect it.
Ford stock and GM stock have been underperforming the broader market all year on the imminent demise of the cycle.
Never mind that operations continue to improve on both the bottom lines, both in the U.S. and abroad.
Ford stock is down almost 14% so far this year. GM stock is off by more than 6%. Meanwhile, the S&P 500 is sitting on a 6% gain. The lagging performance of GM and F sets up an opportunity for investors.
True, demand for vehicles is cyclical. At some point, it has to roll over. But GM and F stock have more than discounted that eventually. The market is overdoing it, and it’s too early. As a result, these stocks sport cheap valuations and hefty dividend yields. They are sneaky good buys.
And now some analysts think the end of the car-buying cycle isn’t as nigh as the market thinks. Jeff Schuster of market researcher LMC Automotive tells Bloomberg that job gains and rising consumer confidence could unleash yet untapped “pent-up demand”.
After all, the average auto sold new has been with its original owner for seven years, Bloomberg notes. Technological innovations and improvements in fuel efficiency make today’s vehicles a clear upgrade over many older vehicles already on the road.
Too Soon to Call the End for GM and Ford
That’s to say the end of the car-buying cycle is not a foregone conclusion just yet. Yes, Ford has said that demand has stopped growing. Other manufactures say different. Either way, it doesn’t change the fact that F stock and GM stock are underpriced. Hey, if this is what a plateau looks like, it’s a very high one.
U.S. car sales hit a record 17.5 million last year and could conceivably top that level this year. But even if they don’t, demand isn’t expected to just fall off a cliff. At current levels, Ford and GM stock are priced for a plunge, not a period of cooling off.
For example, Ford trades at less than 7 times forward earnings. And yet, over the last five years, investors were willing to pay an average of close to 9 times forward earnings. GM, for its part, has a forward price-to-earnings multiple of 5.4 and a five-year average of 7.4, according to data from Thomson Financial.
The historical P/E ratios should be higher because they rode the car-buying cycle on the way up. Fine. But the drop off — a 15% discount for Ford and a 25% discount for GM — is disproportionately large. Analysts expect car sales to flatten out, not decline.
Both GM and Ford are far more nimble and cost effective these days. They can remain profitable in a downturn. If anything, you can say that these names are fairly priced for the current state of demand.
Which brings us to the dividends. The yield on Ford’s payout is 4.96%. GM is yielding 4.76%. Those are very generous streams for income investors in this low-yield environment.
Sentiment isn’t going to improve on GM or Ford because the auto cycle is indeed long in the tooth. They’re not going to get much multiple expansion, but if the market continues to underestimate the resilience of the car market, then these stocks become attractive for the payouts alone.
As of this writing, Dan Burrows did not hold a position in any of the aforementioned securities.
