Toyota: An unexpected winner in automotive?
The dinosaur is refusing extinction. Plain hybrids seem to be eating the cake that was served for EVs. And markets have priced in a pronounced automotive recession. Can it rebound quicker?
Disclaimer: The information contained in this article is not and should not be construed as investment advice. This is my investing journey and I simply share what I do and why I do that for educational and entertainment purposes.
Led by Tesla’s stratospheric surge, the entire EV market took off in 2020. New companies went public and traditional automakers went head over heels with announcements of ever more ambitious electrification targets.
One company did not participate in this frenzy: Toyota. They were ridiculed for not having an adequate EV offering, for not letting go of dead-end fuel cell technology and for actively working against what people believe to be the obvious path towards the decarbonization of the transportation industry.
Fast forward four years, Toyota stock is performing well, both compared to other legacy OEMs and to new EV pure plays. The stock is up 25% from its prepandemic high while rival Volkswagen is down 50%. Of course, Tesla’s 300% move over the same period leaves both behind. But over the last year Toyota has outperformed Tesla (flat vs. -15%). It seems like their stubbornness is paying off and hybrid is the right product to bet on (for them at least).
In addition to this industry-specific angle, this stock is also interesting from a cyclical perspective. Led by the Fed, central banks around the world have kept interest rates artificially high during the last two years. This has crushed industries selling products that typically require financing.
If my macro thesis of normalizing interest rates alongside economic resilience proves correct, there should be a decent cyclical opportunity in those industries. Automotive is a popular example of a rate-sensitive industry.
To vet this hypothesis, I am looking into Toyota today.
TLDR Summary
Buying Toyota stock today is betting on two things: Firstly, that hybrids will play an important role in the future powertrain mix. And secondly, that the automotive industry will be responsive to rate cuts, most importantly the Fed’s.
While much of the rest of the automotive industry is betting big on pure battery electric vehicles (BEVs), Toyota is holding on to its ICE and hybrid vehicles (HEVs) business. While they have only sold a pitiful 97k BEVs as of Aug’24 CYtD, their HEV sales are now accounting for 37% of their global sales which gives them a global market share of almost 30% in this segment, three times higher than their overall market share of 10%.
Betting big on HEVs is charming for Toyota for various reasons. Firstly, even after throwing billions of dollars into BEVs, virtually no legacy OEM has so far proven an ability to compete with battery pure players like Tesla or BYD. Toyota remains focused on what they can do best and that is very profitable for them.
Secondly, the death of the internal combustion engine (ICE) is far from a certainty for the foreseeable future. ICEs have use cases where they succeed against BEVs, particularly in countries with access to cheap fossil fuels (like the US where Toyota sells 33% of their cars).
From a cyclical perspective, the automotive industry is still in the process of recovering from its pandemic-induced recession. Global unit sales did not reach 2019 levels until 2023 and 2024 is shaping up to become the next drop, the third industry recession since 2020.
Toyota has managed these difficult times fairly well. Over the last twelve months, they have sold 10.9m vehicles for a total profit of $33bn. This values the company at an LTM P/E ratio of just 8, which is about 30% discount from prepandemic levels. Unit sales volumes tipped over at the beginning of this year. Markets clearly anticipate this automotive recession to last a while longer. Once the bottom is in, there is a good chance for a forceful stock rebound. The stock price has historically lagged turning points of sales volumes by a few months.
From a macro perspective, this industry is a obviously a firm bet against anything resembling a hard economic landing. If my macro work proves on point, vehicle demand will be very responsive to rate cuts. It appears that this might catch investors off guard. Industrials are heavily underweighted in institutional portfolios and sentiment seems bleak in (social) media coverage.