IDRV - Losing Their Charge: The Implications Of Slowing EV Sales

2023-11-22 08:30:00 ET

Summary

• What's driving the slowdown in the EV sector?
• Rising subprime defaults in the auto market; the implications.
• How recent strikes and labour deals could impact the auto sector?

Electric vehicles are considered a key part of efforts to fight climate change. While sales have been rising, the pace of growth has slowed. David Mau, Portfolio Manager at TD Asset Management, discusses the reasons why and the implications for automakers who consider EVs to be an essential part of their future strategy.

Transcript

Greg Bonnell: While many countries are pushing electrification as crucial to the fight against climate change, one of the big takeaways from earnings season is that consumers may not be snapping up electric vehicles. Joining us now to discuss, David Mau, VP Director and Portfolio Manager at TD Asset Management. David, great to have you back on the program. Great.

David Mau: Great. Hi, Greg. Thanks for having me.

Greg Bonnell: So this has been an interesting turn of events in the past little while, we have electrification of everything, electric vehicles. There's always so much interest around it and hype. And then you start seeing perhaps the consumers aren't snapping them up to the same degree. What is going on out there?

David Mau: Yeah. So I mean, we're definitely seeing a slowdown in demand for electric vehicles, probably started since about the beginning of the year. And don't get me wrong, the EV market is still growing. It's just not growing as fast as it used to grow.

And there's a couple of reasons for that. But the main one is it looks like that demand has fallen off because the pool of electric vehicle buyers has maybe reached an early saturation point. So pretty much, most of the people who had intentions to buy an electric vehicle have -- in the past few years have already bought them. So that pool of potential buyers is getting smaller over time.

And we're seeing electric vehicles sitting on dealer lots for a lot longer now. So previously, an EV would reach a dealer and it might sit in inventory for 30, 40, maybe 50 days. More recently, in the past couple months, we're seeing electric vehicles sit on dealer lots for closer to 90 days. So that's a big difference. And admittedly, we're seeing a lot more supply. So a lot more manufacturers have been rolling out new models. Production has ramped up. So there's more supply, more inventory, and less buyers. So we're seeing that slowdown in demand.

As far as what goes to explain this slowdown, there's a couple of things. I talked about the pool of buyers getting smaller. The other thing is price is still a very important consideration, right, price and affordability. So with an electric vehicle still costing probably 20% to 30% more than a comparable internal combustion car, consumers -- especially in this high interest rate environment, where affordability is actually a lot harder now, consumers are just looking for a cheaper option.

Greg Bonnell: Yeah. If you're financing that car and you're not financing at 1.5% or 2% --

David Mau: Exactly.

Greg Bonnell: -- or not very much higher. I think Elon Musk has said that, in terms of not saying there's anything wrong with the Tesla business and the fact that in a slowing economy and higher interest rates, the buyer isn't there.

David Mau: That's right. So I mean, if you think back a couple years ago, you could get a car loan 1%, maybe 2%, 3%. Nowadays, auto loans are going for 7%, 8%. So it is having a pretty big impact.

Greg Bonnell: When it comes to car loans, a story I think that started percolating maybe even late last year and earlier this year and then sort of went to the wayside, this idea that you could perhaps start to see some problems with auto loans in the United States, particularly subprime. What's happening there?

David Mau: Yeah. So that's a good point, Greg. We're starting to see a pretty significant tick-up in subprime auto defaults. So right now, I think the most recent numbers show that subprime auto defaults are above 6%. 6% of all subprime borrowers are defaulting on their car loans. That's the highest it's been, I think, for the last 30 or 40 years. So -- I mean, that's even higher than the default rates that we saw during the financial crisis in 2008-2009.

So it is starting to be a little bit worrisome. And the thing is for these subprime borrowers, they usually don't have the best credit to begin with. So when the economy starts to weaken even a little bit, these guys are the first ones to be affected. And subprime borrowers are paying a lot for a car loan. They're paying somewhere between 15% and 20% for a car loan. So it is -- when things start to soften or weaken, these are where you start to see the first cracks.

Greg Bonnell: What does that mean for the industry going forward, if you're starting to see those cracks right now with those borrowers? And those are very high rates, I mean, much higher than hopefully a lot of people are paying for their car loans. But what does it mean for the industry going forward in the next little while?

David Mau: I mean, it's going to be challenging for the sector. Because subprime, I mean, really only makeup about, I want to say, 7% to 8% of the overall buyer pool for cars. But that 7% to 8%, if that disappears, is still pretty meaningful and could have a pretty big impact on sales going forward.

Greg Bonnell: All right. So we're seeing a slowdown in demand for electric vehicles for various reasons. We're seeing some rising subprime defaults in the auto space. On top of all of that for the autos -- it's been pretty busy for the sector in the past little while -- we had those strikes and now labor deals and pretty big pay raises in those labor deals. How does that all work towards when we're thinking about autos?

David Mau: Yeah, so I think you're probably talking about the United Auto Workers strike that's happened over the past few months. I think they were on strike for about six weeks. And it seems like they've come to an agreement now.

I think the unions probably did a pretty good job for the employees. I think most of the agreements were for about a 25% increase in wages. And when you add in all the other benefits and improvements that the unions negotiated, their total comp is going to be going up by about 40% over the next four to five years for these unionized workers.

So it is a pretty good deal for the workers. But this adds to an increasingly difficult situation for the automakers. Because like we already mentioned, higher interest rates are slowing demand. And now you have these labor costs that are going up.

What it all really comes down to is it's going to put pressure on margins. So profitability is going to go down. And, usually, what happens in these cases is that the automakers, when they're faced with these rising costs, they're going to try and pass some of those costs on to the consumer. So that's going to be --

Greg Bonnell: The consumer that's already showing slowing demand at least for the electric vehicle side.

David Mau: Exactly. So that's going to mean higher prices for consumers. And we're not seeing that just for the big three in the US. There are other automakers in the US, some of the Asian brands, like Honda ( HMC ), Toyota ( TM ), Hyundai ( HYMTF ), even Tesla ( TSLA ), all of those brands are not unionized. Their plants are not unionized.

But because of this recent deal, a lot of those automakers have also increased wages for their employees. Because A, they know that they need to stay competitive on the pay front to attract and retain employees. And B, because they don't want unions to come into their plants. So if their employees are happy with the pay, it's less likely that the unions will be able to convince the employees to join a union.

Greg Bonnell: When we take this all together, what does it mean for the investment thesis for the auto space in the next little while? Is there be a bit of a choppy ride, I guess, going forward?

David Mau: I think -- yeah, for the near term, it's going to be a little bit rough. We have these rising costs, slowing demand. And then on the -- and this ties into the EV front is that a lot of automakers are spending a ton of money on building out their EV capability, investing in plants, trying to ramp up production. So there's a lot of crosswinds here that could present kind of a -- at least a challenging near to midterm for the automakers.

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