A jumbo rate cut fed hopes for the auto industry.
Shares of auto leaders Tesla (TSLA 7.29%)Â and Toyota Motor (TM 4.36%), as well as auto-centered semiconductor stock Indie Semiconductor (INDI 3.30%) were rallying on Thursday, up 7.3%, 4.3%, and 3.5%, respectively, as of 2:14 p.m. ET.
The main driver for the rise in auto-related stocks today was the Federal Reserve’s 50-basis-point cut to the federal funds rate late yesterday. Here’s why that news was so important to autos, and why the sector is surging today — especially electric vehicle (EV)-related stocks.
Autos are rate-sensitive, EVs especially
Auto-related stocks have been punished this year as high interest rates have depressed growth. A vehicle is a big-ticket item, so many autos are financed. Hence the sensitivity to interest rates. Electric vehicle stocks have been especially depressed as higher rates made EVs — which are generally higher-priced than their internal combustion engine (ICE) competitors — less affordable. Given that auto companies concentrated on EVs had come into this period with higher valuation multiples, it’s no surprise many declined over the past two years.
EVs have also seen a downshift in their medium-term growth expectations. It was recently reported Toyota plans to cut EV production by 30% by 2026 relative to prior targets, in favor of its hybrid vehicles and other alternative lower-carbon technologies. While Toyota will still increase its absolute EV production by that time, it’s clearly seeing weaker growth for pure battery-powered EVs than before.
Recent data has also been discouraging. August sales figures out of Europe showed a staggering 18.3% auto sales decline relative to last year, headlined by a 44% drop in EV sales, according to the European Automobile Manufacturers’ Association (ACEA). The same report showed Tesla European sales in August down 43.2%. Of course, Europe has been the worst auto market this year, as its economy has lagged the U.S. and others. But industry group Cox Automotive has also predicted a tepid U.S. market, forecasting a mere 1.3% growth over 2023.
Image source: Getty Images.
Therefore, yesterday’s announcement by Federal Reserve Chair Jay Powell of a 50-basis-point rate cut, larger than the 25-basis-point cut many had been expecting, caused a big bounce for these depressed auto-related stocks and cyclical stocks in general. As long as the economy doesn’t fall into recession, the big cut yesterday and forecasts for further cuts signal the recent period of high inflation may be coming to an end. Given that the market is forward-looking, auto-related stocks jumped on prospects for relieved consumers and higher auto sales.
Additionally, rate cuts may especially help Indie Semiconductor, which is currently unprofitable. Lower interest rates tend to boost valuations of low-profit or no-profit growth stocks, given that the bulk of their theoretical profits are well out into the future. But the further out profits and cash flows are, the more the present-day value of those profits are discounted by higher interest rates.
While the majority of today’s move in Tesla and other auto stocks was likely due to the larger rate cut, Tesla also received some mildly positive company-specific news. Rival General Motors announced that it would allow its EV customers to charge their vehicles at Tesla superchargers, by developing and distributing adapters for its EVs. Although that change would perhaps open up more competition for would-be Tesla purchases, Tesla also stands to make money on increased charging revenue. Of course, charging revenue usually pales in comparison to selling more vehicles.
The outlook
The auto industry is widely known to be very cyclical, and given the high price tags of autos generally, it’s especially rate-sensitive. And for EV or auto-related tech stocks with lower profits today but high hopes for the future, they are triply sensitive to interest rates.
This is why yesterday’s bigger rate cut was such a big deal for auto stocks and especially those concentrated in EVs or auto tech. For holders of these stocks, this high sensitivity to interest rates is something to consider as you hold these stocks.
Billy Duberstein and/or his clients have no position in any of the stocks mentioned. The Motley Fool has positions in and recommends Tesla. The Motley Fool recommends General Motors and recommends the following options: long January 2025 $25 calls on General Motors. The Motley Fool has a disclosure policy.