Auto sector has turned the corner

However, the recovery is patchy, with 7 of the top 12 four-wheeler manufacturers seeing sales decline

Automobile sales data present interesting patterns. Overall, the four-wheeler segment (commercial vehicles, passenger vehicles, etc) has seen growth after a two-year slump. About 2.5 million four-wheelers were manufactured and sales rose eight-nine per cent compared to 2013-14.

As both 2013-14 and 2012-13 saw declining sales, this indicates the sector might be pulling out of a long slump. In other segments, between April 2014 and February 2015, two- and three-wheeler sales were up nine per cent and 11 per cent, respectively, compared to April 2013-February 2014. But the recovery is patchy. Of the top 12 four-wheeler manufacturers, seven saw declines in unit sales. Honda, Hyundai, Nissan, Toyota and Maruti were the gainers; among these, Maruti is the only listed entity. Tata Motors, Mahindra & Mahindra, Ford, GM, Volkswagen, Renault and Skoda all saw volumes decline. Tata's subsidiary, JLR, is a key contributor to its consolidated results.

The commercial vehicles segment continued to record falling volumes. The numbers were especially poor in the light commercial vehicle category, in which sales were down 12 per cent. Exports saw growth - between April 2014 and February 2015, overall automobile exports grew 17 per cent compared to the year-ago period. What do these numbers suggest? First, the vast majority of vehicles are bought on hire purchase. So, interest rates matter. As it happens, interest rates have probably peaked and consumers don't expect another rise. Interest costs are also significant for manufacturers. Things have not worsened on this front and working capital costs might have improved in the fourth quarter.

Second, commodity costs have been low through 2014-15. Typically, metals, rubber and polymers are important inputs. The prices of these have been stable or trending down. Therefore, margins might have improved for vehicle manufacturers, which have also been desperate enough to pass on savings to drive volumes. Third, we can guess rural and semi-urban demand hasn't been very good. Tractor sales have declined considerably. Lack of a pick-up in the commercial vehicles segment also indicates domestic trade hasn't picked up much.

Consumption demand is likely to be driven by several factors. One is, obviously, a generic pick-up in economic activity. Another is a regime of lower commercial interest rates, which encourages individuals to buy at affordable equated monthly instalments. A third factor could be relatively cheap diesel and petrol. If consumers expect fuel prices to stay low, they are more likely to invest in personal vehicles.

The rate cycle is likely to move down through this financial year (2015-16). The economy is probably moving into a higher gear; auto sales data indicate some sort of a pick-up. But both variables - gross domestic product growth and inflation -depend on the third one, fuel prices.

India's vulnerability to international crude oil, gas and coal prices is very high. In the last financial year, public finances received a $50-billion windfall because crude prices remained low. This was also a major reason behind lower inflation. If fuel prices rise, so will inflation; and, the rupee will come under pressure. This would retard economic recovery and hurt consumer confidence.

Under normal circumstances, petroleum prices should remain low. Global demand for fuels should stay low, given slowdowns in so many regions. If sanction-negotiations with Iran work, there will be more supply into an already weak market. In that case, crude and gas prices might nosedive.

But most of the world's crude-exporting regions are also conflict zones. West Asia is in flames, with tensions are escalating due to the Saudi-led action in Yemen. Iraq and Syria are already engulfed in war. Libya is unstable. The Russia-Ukraine situation is another cause of tension. If the conflicts disrupt crude oil supply or threaten to disrupt it, prices will soar, leading to a panic situation. Barring such a scenario of suddenly rising crude prices, the automobile sector will probably continue to see an improvement in the business cycle.

When we look at the sector's share prices, it's apparent much of that has been priced in. Ashok Leyland has tripled in the past year, while Maruti is up 90 per cent. The stocks of Tata Motors and Mahindra & Mahindra, which have seen sales volumes shrink, have also gained. Ancillary sector companies such as Bharat Forge, Bosch and Motherson Sumi have also done very well in stock appreciation. That trend of anticipatory appreciation should make the investor a little cautious, though the sector seems to have turned the corner.