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January 27, 2014

China Leads Demand in Auto Sector as U.S. Market Sees Tough Road

Visitors to the recent Detroit Auto Show could not help but marvel at the skillfully engineered vehicles displayed by car manufacturers from around the world. The new Mercedes Benz C Class and Ford’s 2015 F-150 truck—constructed almost entirely out of aluminum, which reduces its weight by an impressive 700 pounds— were highlights of the show.

While analysts believe that this year will be a good year overall for the global automobile industry, with strong demand for new cars coming from the emerging markets, concerns over the fate of the U.S. market are now at the top of their list, and they expect the North American auto sector to face a more challenging year than expected.

Car sales in North America had increased significantly since the recession, but now, “we have seen inventories rising and pricing coming under pressure,” said Stephen Reitman, head of automotive equity sector research at Societe Generale in London, “so this is causing some concern.”

In 2013, approximatelty 15.6 million cars were sold in the U.S., said Jessica Caldwell, Senior Analyst and director of pricing and industry analysis for automobile research website edmunds.com. “That’s not too far from pre-recession levels, so now, there’s a fear that we might be returning to that old, unhealthy model, which was based on incentives and inventories and then eventually led to the bankruptcy of Ford and General Motors,” she said. “We’re not there, of course, but clearly there’s a question about how further growth can be achieved.”

On the other hand, production data from China is very strong, largely driven by double-digit growth in key European brands present there, Reitman said. Audi sales, for example, were up 37% in December, while Mercedes sales rose by 27% and Porsche’s by an impressive 71%.

“These are very good numbers and what’s interesting about them is that although some manufacturers of luxury goods had expressed their concern over China in light of the restrictions on gifting and gifts to officials, the premier car market there is going from strength to strength, and that’s defying the doomsayers,” Reitman said.

“China was a massive driver for sales at a time when the European market was weakening and it’s clearly become a very important alternative market that has absorbed a large amount of product that might otherwise have gone unsold. The European premium manufacturers have been able to keep on producing at the same levels and selling in china.”

China continues to be the most important market for automobile manufacturers, particularly on the high end—so much so that 2013 sales took many by surprise. Eighty percent of Jaguar Land Rover’s sales last year reportedly came from overseas markets (the U.S. included), while Volkswagen’s luxury brands—Porsche, Audi and Bentley – benefited greatly from the strong demand for high-end cars in emerging markets such as China and India.

But Chinese demand isn’t limited to luxury cars: “We’re also seeing a growing demand for larger cars in China,” Caldwell said, “and as much as there’s a desire for luxury nameplates, as the Tier Two and Tier Three Chinese cities continue to grow, and people there start to get a lot more money, we’re going to see a great deal more demand for large vehicles.”

Many car manufacturers need Chinese demand to pull them along because of the lull in the European market, Caldwell said. There are some signs of improvement in Europe, “and since they have hit rock bottom, there’s nowhere to go from here except up,” but the process is going to be a slow and laborious one, Caldwell said. The European automobile market did end 2013 a bit better than expected, but the key issue for Europe is partly what will happen to volumes in 2014, Reitman said,. Pricing is also a concern because “pricing competition has been fierce and that has made it quite hard for a number of manufacturers,” he said.

Nevertheless, in countries like Spain, which bore the brunt of the economic downturn, the indicators are more positive, and there continues to be a lot of inward investment in the country’s auto industry, Reitman said. “This is quite positive for Spain and for the region overall, bearing in mind, however, that any recovery taking place is happening from such a low base.”

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