The year 2018 ends more enthusiastically than predicted a year ago, with year-end SAAR echoing the 17 million units in 2017 — but industry economists say rising interest rates, increasingly higher new- and used-car transaction prices, tightening credit, and consumer loan defaults and delinquencies portend a rockier 2019.

Tom Kontos, senior vice president and chief economist for KAR, and Jonathan Smoke, chief economist at Cox Automotive, shared their 2018 review and 2019 projections during a recent AutoTalk webinar, hosted by the American International Automobile Dealers Association.

Lower fuel prices throughout most of 2018 along with tax reform resulted in consumers enjoying increased disposable income. Smoke said those advantages helped to drive strong retail spending on autos “that defies where we are in the economic cycle.”

Consumers did well with credit management, which encouraged credit availability “and consumers feeling confident and in a position to purchase — and they have continued to buy cars.”

Market challenges are likely to promote defaults and delinquencies in 2019, Smoke said, reducing sales in the back half of the year.

Challenges ahead

A subtheme running throughout this webinar was vehicle affordability. As dealers have always done, they will continue to leverage options at hand to put consumers in the vehicles they prefer, working purchase price, rate, term, choice of lender and down payment — but affordability issues will increase next year and beyond.

Kontos said consumer demand for more expensive vehicles is part of the affordability factor. “This goes to the fact that more and more consumers are going upscale, buying more SUV crossovers and higher-dollar vehicles in general. The weighted average vehicle price may come down if consumers choose to reduce their monthly payment, given rising interest rates, by buying less vehicle.

“On the other hand, the thing that has elevated prices besides people picking vehicles priced higher is the technology on vehicles, and I don’t see that changing and MSRPs will continue to go up,” Kontos said.

As to affordability, longer-term loans are not the answer, Smoke said. “That’s not good for the U.S. consumer or the dealer for that matter, because with longer terms, we’re effectively guaranteeing to put the consumer underwater. That complicates the ability for them to do trades more frequently. Longer terms create an environment where if consumers have any sort of financial hiccup the result is going to lead to delinquencies and defaults.”

That hiccup occurred Dec. 19, with the Federal Reserve’s discount rate increase, announced the day after the AIADA webinar. This increase, the fourth this year, makes 2018 notable as the most active discount rate period since 2006, Cox Automotive said in an email to journalists following the Fed’s news.

The Fed’s move directly affects the cost of mobility in America, Cox wrote.

“According to Cox Automotive Chief Economist Jonathan Smoke,” the email said, quoting Smoke, ‘Auto loan rates are at a more than seven-year high. If we see rates move up by more than a quarter point, they will be in the range we saw back in early 2011 and before that 2004. The era of low auto loan rates is behind us.

That means that the payment becomes even more front and center to the car buying experience. Negotiating the payment is ironically the part of the buying process that consumers dislike the most and want to change.’”

Cox reported the average new payment in Dealertrack is now $567, $26 more than last November, or almost 5 percent higher. Average new-vehicle prices have increased approximately 3 percent over the previous year. “The era of low auto loan rates is clearly behind us,” Smoke said.

Lease opportunities

Leasing should remain an attractive alternative to finance. Kontos predicted lease penetrate rates at about 30 percent early in 2019 and then falling to the high-to mid-20s by spring.

Smoke agreed. “I’m actually hopeful that we will see an increase. We’re no longer seeing lease payments inflate by more than other types of payment alternatives, making leasing more attractive. The wildcard here is how much the OEMs and their finance companies want to invest in lease invention and promotion that makes lease rates attractive.

“Leasing is actually good for the consumer and good for the dealer and the OEM alike,” Smoke said. “It is the more proper way [to affordability], to keep payment lower for the customer.”

High off-lease volume, which these economists predict will peak by spring, has driven used car volume, but expect that to taper off as well by spring.
“We see now a robust used market, especially for less-than-4-year-old vehicles, which is very good for strong certified pre-owned sales. The challenge to franchise dealers in 2019 and 2020 who have been focusing on growing their used car market — growing the ratio of used cars to new — is the supply of vehicles, which is peaking,” Smoke said.

The decline of the sedan and the lease volume in pickup trucks, SUVs and crossovers are reshaping the future’s off-lease pool. “This will make dealers all the more eager to take those off-lease vehicles and ground them, if the consumer isn’t keeping them, which diminishes the number of those vehicles coming to a physical auction,” Smoke said.

Alternative challenges

The role of electric vehicles, ride-share alternatives and subscription models redefining the dealership business was also discussed. 

“Based on the growth rate in the population and in licensed drivers, you could conclude that the intensity of vehicle purchases is diminished relative to the population.

This may be a sign the new generation of car shoppers is considering alternative ways to get from place to place or not to go from place to place, because they don’t even have to to socialize,” Kontos said.

“The affordability question,” Smoke said, “supports competition in the world of subscriptions. OEMs and dealers are experimenting because they think subscription models is an incremental source of income. Others are testing it, realizing that if anybody perfects the offering, that’s good value.” 

Smoke pointed out consumers interested in subscription models might prove to be the ideal customer for dealers — the alternative model creates more frequent trade activity. These typically economically better-off consumers are those who also want their dealer to handle all their vehicle needs.

“That’s exactly the kind of customer the industry can’t afford to lose over the long term,” Smoke said.