Upcoming Lease Turn-in Rollover "Tsunami" Among RED FLAG WARNINGS For US Auto Sales

By Martha Hindes
Senior Editor
Michigan Bureau
The Auto Channel

The current upheaval underway with Ford Motor Company's sudden realignment of its top executive structure is only one of the uncertainties facing the auto industry as it approaches the end of the second decade of the 21st century.

An annual industry analysis by Bank of America Merrill Lynch has some alarming predictions in its Car Wars 2018-2021 report presented before the Automotive Press Association in Detroit Thursday. Key elements include the galloping market shift from cars to crossovers that shows no signs of waning, the expected impact of masses of leased vehicles returning to dealerships at the end or their lease cycles following record vehicle leases last year, the uncertainty of industry changes with the young Trump administration in Washington, material costs and, while less evident, the specter of autonomous vehicles beginning to emerge on the horizon.

The report presented by John Murphy, senior auto analyst for Bank of America Merrill Lynch Global Research cited the upcoming expansion of the mid-size SUV segment that will add 57 new and updated models from all auto makers during the 2019 to 2021 period. During the next four years a crowded market of 110 crossover models will intensify competitive pressure on auto makers trying to maintain sales.

The report included an unnerving prediction of a vastly reduced new vehicle market in the U.S. to a probable 13 to 14 million in annual sales by the early to mid 2020s. That free fall from a previously predicted 17.9 million by year-end 2017 Murphy attributed in large part to what he called a "lease tsunami."

The 2016 calendar year saw leases at record levels, about 30 percent of sales, fueled largely by low interest rates and high residual values that made lease payments affordable to many consumers who previously had not leased their vehicles. Those new leasees accounted for about 10 percent of total leases, pushing it to near double the traditional 15 to 20 percent of the market.

The influx of those vehicles when they return is expected to flood the market with well contented used cars, crossovers and trucks that could pull some potential new vehicle buyers into the used market. And those who come off lease almost never choose to buy the vehicle they have been leasing, according to Murphy.

While he called the forecast "maybe too ominous," he added, "there are a lot dynamics at work here...the industry is getting a little bit too comfortable with the idea that 17.1 million sales rate through the first four months (of 2017), down 1-1/2 percent, is a reasonably good number. Because that number, relative to what we're seeing on the leasing side -- which is really the second dynamic here -- is putting the industry at some pretty extreme risk."

The number of vehicles coming off lease in 2017 are reaching all time highs, with some 3.5 million returning to dealerships this year, he said. It would take at least a17.5 million sales year to absorb that number of lease returns in an "orderly fashion."

By contrast, at the previous peak in 2002 and 2003 following heavy leasing markets, some 3.2 million vehicles came off lease. When 2016's record leases expire in 2019, it will bring back a glut of nearly 5 million vehicles, a number the industry never before has had to deal with.

And those epic lease expirations undoubtedly will present a shock factor for a returning leasee who previously "stretched" to make a $400 monthly payment on the high end SUV he or she has become accustomed to who will find a "low payment" jump to more than $500 with expected higher interest rates and projected lower residual values. That could push lease rates beyond a consumer's ability to pay, and especially could affect that buyer who previously had not entered the lease market, rather than the longer-term leasee who is more accustomed to the changes at the end of a lease cycle.

Murphy said auto makers have allowed this scenario to happen because almost all vehicle leases are underwritten by captive finance arms.

Murphy said a 3-1/2 year-old vehicle coming off lease is worth about 45 percent of a new vehicle.The question becomes whether a consumer will lease or buy, whether captive finance subsidiaries will try to work with the consumer or whether auto companies will try to lower prices short term.