Good sales are driving auto stocks higher

Kathleen Brooks
WHEN markets drop as dramatically as they did last week it can be helpful if traders have a glass-half-full mentality: as the market swoons it’s the perfect time to pick up stocks at bargain prices.

But where should spread betters be looking to pick up good quality stocks on the cheap? Goldman Sachs produced a research note at the end of last week that reiterated its positive view on the future of the auto sector.

The US banking giant believes that earnings will be strong this year and its analysts forecast global car demand to grow by 7.7 per cent annually from 2010 to 2012. This corresponds with the Society of Motor Manufacturers and Traders’ (SMMT) forecasts for growth in car demand in the UK to expand by more than 8 per cent in 2010.

However, this good news has not been reflected in stock prices. The recent bout of market turbulence has driven car stocks lower leaving what Goldman calls a “dislocation between share prices and fundamentals”.

There are four factors that should help boost profits at auto firms this year. Firstly, sales continue to benefit from government incentive schemes in some countries. Secondly, auto production has been ramped up this year after a major contraction in 2009. Thirdly, new and used car prices have stabilised, which should help boost margins. And lastly, the recession has helped the industry to cut costs, which has gone some way to clean up company balance sheets and make businesses more efficient and robust.

Strong first half results, which will be reported later this year, should be the catalyst for stock price gains, according to Goldman. It is worth noting that the investment bank has a very rosy view of the economy. Its global GDP forecast for this year is 4.9 per cent. It is also fairly sanguine about the impact of the sovereign debt crisis in Europe, and does not think it will derail the global economy. According to this view the cyclical recovery is still underway, which should be good for auto sales. Even if we experience a double dip recession, however, it believes that earnings in the sector will not be hurt as much as they were in 2008-2009, when revenues for the sector dropped by 14 per cent. Goldman believes that companies are in a far stronger position this year and funding issues are less of a problem compared with 2009.

However, if you are more cautious then it’s a good idea to pick the strongest auto stocks in the sector. Goldman favours Fiat and Volkswagen. It is particularly positive on Volkswagen, which has enjoyed a very strong start to the year. First quarter vehicle deliveries were up 24 per cent, and operating profit grew to more than €800m, 40 per cent higher than last year. It has significant exposure to emerging markets and is working toward €1bn of cost savings.

Goldman also has a buy recommendation on Fiat, which it says has “the most attractive value-creation potential within the European sector”. Goldman believes Fiat’s Brazilian market and ongoing cost savings can help drive performance this year – yet the stock is almost 60 per cent lower than the high reached in 2007.

For the next few weeks, and possibly months, trading conditions could be volatile. This makes it important to make informed trading decisions and choose stocks with superior fundamentals that are good value.

Volkswagen and Fiat tick both of those boxes and are attractive propositions for a spread betting portfolio.