Analysis – Investors shun European car stocks despite rock-bottom valuations

By Sruthi Shankar and Danilo Masoni

(Reuters) – European auto stocks are so unpopular at the moment that investors are continuing to reduce their exposure, even as the scale of the industry’s problems has driven valuations near record lows, which would normally be a big incentive for would-be buyers.

The STOXX 600 Autos and Parts index is among the worst performers this year. Analysts forecast a 13.6 percent drop in earnings in 2024, a reversal from the years immediately following the pandemic, when supply chain problems gave carmakers license to raise prices.

Investors believe deep cost cuts are becoming inevitable in a recession driven by complex technological change, fierce competition from Chinese newcomers and increasingly price-conscious consumers.

They say economies of scale are key, especially for mass-market brands like Germany’s Volkswagen, which is facing unions over unprecedented plans to close factories on its home soil, in part because of Chinese competition and costs growing with labor and energy.

European cars are now trading at a near-record 60% discount to the broader market represented by the pan-European STOXX 600 index on a price-to-earnings basis. Still, a BofA survey this month found autos to be the most underweight sector among regional fund managers overseeing $284 billion.

“This toxic cocktail that you have — weakness in China, prices that have come off the peak, volume growth not happening, higher labor costs — leaves room for some of these stocks to easily fall with another 10-20% if things go sour. ” said Rolf Ganter, CIO director of European equities at UBS Global Wealth Management.

“Valuations are very cheap, but we’re not pushing the sector at all.”

MORE ALERT FOR SALE?

Shares in Volkswagen, BMW, Mercedes-Benz, Renault and Stellantis have fallen as much as 29-50% from this year’s peaks to multi-month and even multi-year lows.

“The Western auto industry is facing a huge challenge because of the advantage of the Chinese and people don’t want to spend as much money on electric vehicles as they did a few years ago,” said Gilles Guibout, Head of European Equity Strategy at AXA Investment Managers.

“Either you can raise your prices and justify a premium to customers, which means your brand is worth it, or they have to cut costs – there’s no other option.”

Car sales in the European Union fell more than 18 percent in August from a year earlier. Sales of all-electric vehicles fell 44 percent, led by steep declines in Germany and France, the bloc’s biggest electric vehicle markets.

The story continues

“There could be a lot of profit warnings coming our way, which suggests it may not be the time to … buy the trough in the auto sector,” said Andreas Bruckner, investment strategist at BofA.

VALUE TRAP

Demand for electric vehicles has cooled to the point where several major automakers have scaled back their electrification plans, with Sweden’s Volvo Cars abandoning its goal of going all-electric by 2030 earlier this month.

“For electric cars, you have to solve the basic problem, which is first the production of electricity and systems that make this project feasible,” said Carlo Franchini, head of institutional clients at Banca Ifigest.

“Cars are not something to bet on right now. Reducing exposure is certainly not a bad idea,” he added, also saying he doesn’t think families are prioritizing car purchases.

A retreat from electrification has its own risks. Renault CEO Luca de Meo recently warned that European carmakers that exceed EU carbon emission limits in 2025 could face fines of almost $20 billion due to slowing demand for electric vehicles.

The sector is caught in the middle of a trade dispute between the EU and China, with the former imposing tariffs on imported Chinese-made electric vehicles based on excessive and unfair subsidies to Chinese manufacturers.

A potential return of former US President Donald Trump to the White House could also reignite a trade war with China, which would have ramifications for European carmakers.

“It is hard to say whether we have reached the end of the negative news in the sector: even if the valuation is tempting, it could be a value trap in the absence of a recovery,” said Chiara Robba, head of LDI equity at Generali Asset. management.

“The sector needs to be supported by a complete transformation of the supply chain, manufacturing and recharging infrastructure to help mobility and improve demand for electric vehicles.”

(Reporting by Sruthi Shankar in Bengaluru and Danilo Masoni in Milan; Editing by Kirsten Donovan)