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  1. Home
  2. / Investing
  3. / Consumer Discretionary

Best Way to Play the Auto Sector? Avoid It

An oversupply of vehicles is causing automaker incentives to ramp up as a squeeze continues on suppliers and dealers.
By JAMES GENTILE Jul 28, 2016 | 01:39 PM EDT
Stocks quotes in this article: PAG, ABG, BWA, TEN, ALV, TEL, APH, DLPH

Ouch.

An oversupply of autos, both new and used, is likely to continue to crimp auto sales for at least the balance of 2016. For consumers, what a home run. But wait -- many have purchased either new or late-model used cars recently.

For now, the average consumer is satiated with newer technology and sportier and more fuel-efficient vehicles than ever -- at least until lease terms end over the next couple years.

With incentives ramping up and profit margins at both auto dealers and suppliers near all-time highs, it'll probably take a few more quarters or some miraculous shift in consumer and lending appetite to become incrementally excited about anything auto.

Over the last month or so I've discussed here and here that the inventory and lending environment is tough for the dealers. However, acquisition activity and parts and services stability lay at the foundation of these businesses, so we could see stabilization sooner in dealership stocks such as Penske Automotive Group (PAG) and Asbury Automotive (ABG) than we see it at the suppliers, most notably BorgWarner (BWA) , Tenneco (TEN) and Autoliv (ALV) . However, I for one am not ready to make that call quite yet. These issues have gotten cheaper, though.

The best way to play the autos at the moment is to avoid them overall. If you cannot, then look to the content growth stars, such as TE Connectivity (TEL) , Amphenol (APH) or Delphi Automotive (DLPH) as solid ways to play the long-term trend of interconnectivity in automotive. Valuations are richer here, but growth is more understandable as well in spite of the consumer cyclical nature of these businesses.

Aside from that, we just have to wait for this inventory glut to clean itself out and for pricing to stabilize. Cyclical growth, despite continued pockets of product strength, will be harder to rely upon.

Finally, our demographic, over the long-term, casts some doubt as well over the underlying conceptual framework around automobile ownership and storage. In the future world of Orwell, there may be fewer cars owned and more of them shared. Probably hogwash, but who knows?

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At the time of publication, James Gentile had no positions in the stocks mentioned.

TAGS: Investing | U.S. Equity | Consumer Discretionary | Transportation | Consumer | Stocks

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