After the recent IMF economic outlook, there are no doubts: everyone from the IMF to the World Bank expects the world economy to perform worse in 2019. The only uncertainty seems to be if we witness a temporary slow-down or a recession?
Let us look at one industry to obtain a better understanding of this: the car industry. This industry is close to the consumer (when consumer sentiment goes up, we will see an increase in car sales) but it is also powerful enough to have an impact on global trade and commodities: from metals to petrol all are in one way or the other dependent on the car production. There were more than 95m car sales in 2018. Sales of automotive vehicles are important: you might live in Germany, Italy or France and without any doubts, many jobs depend on this industry. What is striking is that expectations were that the cars on our roads continuously increase. But after almost three decades of world beating growth, annual passenger vehicle sales in China, the world´s largest car market, have reversed for the first time since 1990 and have stabilised around 24m. This is important as companies like the VW Group derive 49%, Audi a spectacular 56%, and Mercedes 30% of their profits before tax from China according to Evercore ISI. Note that Tesla, the electric car champion, that recruited last year as if there was no tomorrow, has decided to streamline its workforce by 7% in 2019. We saw major job cuts from Jaguar Land Rover and Ford in the UK/Europe, only a few weeks ago.
Worse, the country which everybody admires for its economic structure and resilience, Germany, has seen a double whammy: first its car industry had to deal with the dieselgate affair, and tougher rules around CO2 feed a growing negative opinion against diesel cars (most of the up-market cars in Germany are powered by a diesel engine see Mercedes); in addition, Germany which GDP is 40% export driven, has to deal with a Trump administration cooling down sensibly global trade. German car makers sensitivity to trade war between China and US is huge as some car makers derive over 50% profits from their Chinese operations. We will not even speculate about the Brexit impacts for these carmakers…
Wall Street analysts draw their conclusions: “If we don´t get a large and determined policy response- and we´re talking a big macro stimulus, not just a tax cut on cars- then the industry is going to need to make substantial production cuts”. Clearly, the mood across this industry is bleak. Stock markets reacted, and we saw corrections of the major companies by some 20% over the last 12 months; Ford and Daimler saw even corrections above 30%.
Structurally this industry is also entering a new period where cars with standard combustion technology will dwindle and lead to a shift to battery power. Car makers will make less money on those as consumers appear unwilling to pay for.
Some observers do expect Germany to slide into a technical recession after potentially two quarters of negative growth in the second half of 2018. Even if Germany can avoid this, we might see a recession of earnings in that industry. According to Capital Economics, German car production fell by 1.8% in November 2018, leaving it 9% below its June peak!
However not all is bad: looking at the US, the second largest car market, sales rose slightly in 2018 to 17.3m. Another silver lining is that German motor vehicle orders have risen by 14% since the low point in July 2018; this takes them to their highest level in almost a year. Even if in key markets of China, the US and the EU sales of combustion cars are unlikely to be surpassed in any future year according to the FT, car makers ramp up production of electric cars. Electric cars are predicted to grow fast enough to shrink the portion of combustion engines sold. Moody´s projects that global car sales will grow by 1.2% in 2019 to 96.6m cars. Electric cars are expected to grow by 1.5m units next year. Without doubt, China the largest car market, remains the wild card for any car maker, and the outcome will strongly depend on any trade outcome between US and China.
So, will the global economy have a temporary slow-down or a recession in 2019? Taking the car industry as a proxy, we would argue that we have seen the slow-down, and that we might certainly see some further earnings recession in the coming months. Stocks have reacted by correcting some 20% over the last twelve months. However, we are positive for 2019 and we do not expect a recession in major economies in 2019; from our standpoint, the market is too much focused on all the negatives that we have already seen and which are nearly priced in.
Perhaps the US/China discussions around their trade will end up in some welcome positive surprises…