THE USED VEHICLE MARKET: BUMPS ON THE ROAD AHEAD CHARLES CHESBROUGH SENIOR ECONOMIST AND SENIOR DIRECTOR OF INDUSTRY INSIGHTS JUNE 2017

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1 THE USED VEHICLE MARKET: BUMPS ON THE ROAD AHEAD CHARLES CHESBROUGH SENIOR ECONOMIST AND SENIOR DIRECTOR OF INDUSTRY INSIGHTS JUNE 2017

2 Introduction Charles Chesbrough Senior Economist and Senior Director of Industry Insights Cox Automotive Charles is a seasoned quantitative analyst and researcher with over 25 years of experience utilizing data to identify industry trends and opportunities. Charles joined Cox Automotive recently and is focused on expanding the organization s research and analysis initiatives, and on the economic and industry outlook. Charles comes to Cox after working as Chief Economist at OESA, the automotive supplier trade association, and IHS Automotive where he was Director of Industry Analysis and Senior Economist. At IHS, Charles was responsible for developing and integrating statistical models and economic scenarios into IHS global automotive forecasts. Charles has also worked for Ford Motor Company's marketing strategy group as well as two technology start-up companies and two market research firms. He began his career as a floor trader at the Chicago Board of Trade. Charles earned a bachelor s degree in economics from the College of Business at Michigan State University and a master s degree in applied economics from the University of Illinois at Chicago. He returned to Michigan State University and completed all courses for the economics PhD program. Charles has won many economic forecasting accuracy awards and is a board member and former President of the Detroit Association for Business Economics and a member of the National Association for Business Economics, the Federal Reserve Bank Automotive Roundtable, and the Society of Automotive Analysts. 2

3 Agenda Status of the Used Vehicles Market threats and vulnerabilities Leasing Karma 3

4 New and Used Light Vehicle Registrations Old used and new fleet is fairly stable it s new retail and newer used lifting market to record highs Registration Volume by Type (12m average) Total Registration Volume (12m average) Share by Type 30,000,000 54,000,000 50% 25,000,000 20,000,000 53,500,000 53,000,000 52,500,000 45% 40% 35% 30% 15,000,000 52,000,000 25% 10,000,000 5,000,000 51,500,000 51,000,000 50,500,000 20% 15% 10% 5% 0 50,000,000 0% Used >6yrs New-Retail Used<=6yrs New-Fleet Total Share Used<=6 Share New Fleet Share Used>6 Share New Retail Source: IHS Markit Registrations Data 4

5 Apr- Jul- Oct- Jan- Apr- Jul- Oct- Jan-2017 Jan-2011 Jan-2012 Jan-2013 Jan-2014 Jan- Jan- Jan-2017 Used Light Vehicle Sales YTD sales up over 4%, and Independents gaining share Used Vehicle Sales (Monthly Actuals) 5,000,000 4,500,000 4,000,000 3,500,000 3,000,000 2,500,000 2,000,000 1,500,000 1,000, ,000 0 Used Vehicle Sales (12m Total) 41,000,000 40,000,000 39,000,000 38,000,000 37,000,000 36,000,000 35,000,000 34,000,000 Market Share 42% 40% 38% 36% 34% 32% 30% 28% Total Used Independent Franchise Private Party Total Used % Franchise % Independent % Private Source: NADA Used Vehicle Sales Data 5

6 New Light Vehicle Sales Pace has slowed since Q4, but still on track for a strong year Monthly Sales (SAAR, millions) Keep America Rolling Employee Pricing For All Cash For Clunkers Total Car Light Truck Source: Automotive News, US Bureau of Economic Analysis 6

7 Economic Growth and New Light Vehicle Sales Strong relationship historically, but some divergence since 2009 recession LV Sales Growth (quarterly, YOY) 30% 20% 10% 0% -10% -20% -30% GDP Growth (quarterly, YOY) 10% 8% 6% 4% 2% 0% -2% -40% -4% LV Sales Growth - L GDP Growth - R Source: Bureau of Economic Analysis, 4 quarter moving average 7

8 1/1/2003 1/1/2004 1/1/2005 1/1/2006 1/1/2007 1/1/2008 1/1/2009 1/1/2010 1/1/2011 1/1/2012 1/1/2013 1/1/2014 1/1/ 1/1/ 1/1/2017 1/1/2003 1/1/2004 1/1/2005 1/1/2006 1/1/2007 1/1/2008 1/1/2009 1/1/2010 1/1/2011 1/1/2012 1/1/2013 1/1/2014 1/1/ 1/1/ 1/1/2017 Consumer Debt Total back to pre-recession levels, but now with Student and Auto debt leading the way Total Debt Outstanding (trillions $) $14 $12 $10 $8 $6 $4 $2 Share of Total Debt (%) 12% 10% 8% 6% 4% 2% $0 0% Mortgage HE Revolving Auto Loan Credit Card Student Loan Other HE Revolving Credit Card Auto Loan Student Loan Source: New York Fed Consumer Credit Panel/Equifax 8

9 Auto Loan Credit Conditions Availability has been driving the vehicle market recovery; Why? Car buyers pay their bills Motor Vehicle Loans Outstanding (billion $) Annual Change S&P/Experian Default Indices $1,200 20% 6% First Mortgage Default $1,000 15% 5% Consumer Credit Default Auto Loan Default $800 $600 10% 5% 4% 3% Low default rate may explain why auto credit has been so strong since recession $400 0% 2% $200-5% 1% $0-10% 0% Loans Outstanding - L Annual Change - R Source: Federal Reserve Bank, Quarterly Data Source: Experian, monthly data 9

10 Agenda Status of the Used Vehicles Market threats and vulnerabilities Leasing Karma 10

11 Q1 1978Q1 1981Q1 1984Q1 1987Q1 1990Q1 1993Q1 1996Q1 1999Q1 2002Q1 2005Q1 2008Q1 2011Q1 2014Q1 2017Q1 2020Q1 Auto Loan Credit Quality FICO scores stable, but delinquencies starting to rise FICO Scores New Originations Delinquency Rate (%, Accounts 30 days past due) Median FICO 25th Percentile Score 10th Percentile Score Source: FRBNY Equifax Risk Score, quarterly data, HHDC (household debt and credit) Report Direct (Bank) Loans Indirect (Dealer) Loans Source: American Banker Association Survey, Moody s forecast 11

12 Auto Loans - Subprime Delinquencies still below previous peak; Amount of poor credit loans is sizable, and vulnerable Auto Loan Delinquency Rate (percent) Total Subprime Loans (billions) $300 $280 $260 $240 $220 $200 $180 $160 $140 $120 Annual Change/Share 40% 30% 20% 10% 0% -10% 0 $100-20% 90+ Days Delinquent (FRBNY) % of Subprime Delinquent (Liberty St) Outstanding Share of Total Annual Growth Source: Moody s, Federal Reserve Bank New York, Liberty Street quarterly data 12

13 Labor Market Employment conditions strong concern is that economy doesn t stay at these levels for long Initial Claims (4 week moving average) 700, , , , , ,000 Unemployment Rate (U3, %) , , years , , ,000 0 Source: Department of Labor, Bureau of Labor Statistics 13

14 Job Market 5.7 million openings; Quits slowly rising too workers gaining confidence, wages to follow? Openings: Jobs Open Per 100 Employed (3m average) Job opportunities strong above 16 year highs well above pre-recession levels Quits: Jobs Quit Per 100 Employed (3m average) Quits rising but remain relatively low eventually will force higher wages to reduce turnover Total Non-Farm Manufacturing Total Non-Farm Manufacturing Source: Department of Labor, Bureau of Labor Statistics 14

15 Labor Market Wages Wage growth weak since recession; FED watching closely as a potential inflation spark Average Hourly Earnings (monthly) $22 $20 $18 $16 $14 Annual Change (3m average) 4.5% 4.0% 3.5% 3.0% 2.5% $12 $10 $8 Average Annual Wage Growth : 3.2% : 2.1% 2.0% 1.5% 1.0% Average Earnings $/hr - L Annual Change 3m avg - R Source: Department of Labor, Bureau of Labor Statistics, Production Non-supervisory 15

16 Interest Rates More aggressive tightening likely; FED walking a tightrope to avoid recession Effective Federal Funds Rate (%, overnight) Key Interest Rate Forecasts (%) Federal Funds% 10-Year Treasury% Prime Rate% 30 yr Mortgage% We are here Source: Federal Reserve Bank Source: Moody s current quarterly forecast 16

17 Net Respondents Yes, in percent Borrowing Conditions Vulnerable Consumers spending all loan savings ; Banking survey suggests change is coming US Average Amount Financed (new) Auto Loan Availability $30,500 $29,500 $28,500 4%, 5 year loan of $29K: each 1% increase in rates adds $13 to monthly payment, or $800 total cost. Multiple FED rate increases may add $2,000+ over near-term $29, $27,500 $26, Stronger Demand for Auto Loans Tighter Standards for Auto Loans $25, $24, Source: Federal Reserve Source: Federal Reserve, Federal Reserve Loan Officer Survey, 4 quarter average 17

18 Agenda Status of the Used Vehicles Market threats and vulnerabilities Leasing Karma 18

19 Lease and Fleet Share Bubble forming? High Lease and Fleet will cause problems for residual values, and surge in CPO Lease and Fleet Share of New LV Registrations Lease Originations (millions) 26% 24% 22% 20% 18% 16% 14% Lease Share Fleet Share Source: IHS Markit, Manheim Consulting 19

20 Apr- Jul- Oct- Jan- Apr- Jul- Oct- Jan-2017 Jan-2011 Jul-2011 Jan-2012 Jul-2012 Jan-2013 Jul-2013 Jan-2014 Jul-2014 Jan- Jul- Jan- Jul- Jan-2017 Certified Pre-Owned Vehicle Market Sales still trending 850K+ each month, but high growth period ending CPO Vehicle Sales (Monthly Actuals) 1,000, , , , , , , ,000 CPO Vehicle Sales (12 Month Average) 11,000,000 10,000,000 9,000,000 8,000,000 7,000,000 6,000,000 5,000,000 Annual Change 18% 16% 14% 12% 10% 8% 6% 4% 2% 600,000 4,000,000 0% CPO Sales Annual Change Source: Autodata Used Vehicle Sales Data 20

21 FORD HONDA TOYOTA CHEVROLET NISSAN MERCEDES-BENZ BMW LEXUS VOLKSWAGEN HYUNDAI KIA JEEP GMC AUDI INFINITI CADILLAC ACURA SUBARU BUICK MAZDA DODGE LINCOLN CHRYSLER RAM Off-Lease Projections: By Brand OEM sales strategies will have lasting impact some more than others Count of Leased Vehicles by Year of Return 450, , , , , , , ,000 50,000 0 Year of Return Total 2,514,898 3,081, ,591, ,883, Source: IHS Markit Estimates 21

22 NON LUXURY TRADITIONAL MID SIZE NON LUXURY COMPACT CUV NON LUXURY TRADITIONAL COMPACT LUXURY TRADITIONAL COMPACT NON LUXURY MID SIZE CUV LUXURY MID SIZE CUV NON LUXURY MID SIZE SUV LUXURY TRADITIONAL MID SIZE NON LUXURY FULL SIZE HALF TON PICKUP NON LUXURY MID SIZE VAN LUXURY COMPACT CUV NON LUXURY TRADITIONAL SUB COMPACT NON LUXURY TRADITIONAL FULL SIZE LUXURY SPORT LUXURY TRADITIONAL SUB COMPACT Off-Lease Projections: By Segment Over 3.5 million units coming back to dealers in 2017 many are less desired cars Count of Leased Vehicles by Year of Return 800, , , , , , , ,000 0 Year of Return Total 2,514,898 3,081, ,591, ,883, Source: IHS Markit Estimates 22

23 New Vehicle Incentives Spending above recession levels, and pace is accelerating Average Incentive Spending Per Vehicle (3 month avg) $4,000 $3,500 $3,000 $2,500 $2,000 Annual Change in Incentive Spending (3 month avg) 30% 20% 10% 0% -10% -20% $1,500-30% Light Truck Pass Car Industry Light Truck Pass Car Industry Source: Autodata Incentive Estimates 23

24 Light Vehicle Listing Price New and Used asking prices weakening only CPO appears stable Average Listing Price on Autotrader Website $40,000 Annual Change in Price 10% $35,000 5% $30,000 0% $25,000-5% $20,000-10% $15,000-15% $10,000-20% CPO Used (age <= 6 yrs) Used (age 7+ yrs) New CPO Used (age <= 6 yrs) Used (age 7+ yrs) New Source: Autotrader Listing Price, Cox Automotive 24

25 Jan-14 Apr-14 Jul-14 Oct-14 Jan-15 Apr-15 Jul-15 Oct-15 Jan-16 Apr-16 Jul-16 Oct-16 Jan-17 Apr-17 Vehicle Values Transaction trends positive on nominal basis but retained values falling Average Transaction Price $40,000 Average Retained Values (% of MSRP) 64% $35,000 $32,145 $34,634 62% $30,000 60% $25,000 $20,000 $18,975 $20,764 58% 56% $15,000 $11,982 $12,808 54% $10,000 52% CY CY CY 2017 Ave New Transaction Price (KBB) Manheim Adjusted Ave Price Average Used Retail (Dealertrack) 50% Jan Feb Mar Apr May Jun Jul Aug Sep Oct Nov Dec Source: Kelley Blue Book, Dealertrack, Manheim Source: KBB Auction Values 25

26 Manheim Used Vehicle Value Index Maintaining upward trend through April, but segments vary significantly Manheim Index (Jan 1995=100) 130 Change in Wholesale Auction Price (YTD, YOY) 35% % 25% 20% 15% 1 my old 2 my old 3 my old 4 my old % 105 5% % -5% -10% 90-15% Industry Compact cars Midsize cars Luxury cars Pickups SUV/ CUV Vans Source: Manheim, monthly, Adjusted for mix, mileage and seasonality 26

27 Jan Feb Mar Apr May Jun Jul Aug Sep Oct Nov Dec Jan Feb Mar Apr May Jun Jul Aug Sep Oct Nov Dec Average Auction Prices Weakening prices will have impact on residual values, credit availability and profitability Average Auction Price: 3 Model Years Past Average Auction Price: 5 Model Years Past $18,500 $14,000 $18,000 $17, $13,500 $13, $17,000 $16,500 $12,500 $12,000 $11,500 $16,000 $11,000 $15,500 $10,500 $15,000 $10,000 Source: Manheim Consulting 27

28 Retained Value of MSRP by Segment Consumer preferences, incentives, fleeting all impacting valuations Luxury High Performance Car Mid-size Pickup Truck Luxury Sports Car High Performance Car Luxury Mid-size SUV/Crossover Luxury Compact SUV/Crossover Sports Car Luxury Full-size SUV/Crossover High-end Luxury Car Mid-size SUV/Crossover Full-Size SUV/Crossover Van Compact SUV/Crossover Subcompact SUV/Crossover Hybrid/Alternative Energy Car Full-size Pickup Truck Entry-level Luxury Car Minivan Compact Car Mid-size Car Luxury Car Full-size Car Subcompact Car Electric Vehicle MY Retained Value 90.2% 82.7% 79.7% 77.4% 74.9% 71.4% 70.0% 69.6% 69.1% 69.1% 68.9% 66.0% 64.8% 64.3% 63.7% 63.1% 63.0% 62.9% 60.9% 58.4% 57.6% 56.7% 54.8% 52.2% 0% 20% 40% 60% 80% 100% Luxury High Performance Car Mid-size Pickup Truck Luxury Sports Car High Performance Car Luxury Mid-size SUV/Crossover Luxury Compact SUV/Crossover Sports Car Luxury Full-size SUV/Crossover High-end Luxury Car Mid-size SUV/Crossover Full-Size SUV/Crossover Van Compact SUV/Crossover Subcompact SUV/Crossover Hybrid/Alternative Energy Car Full-size Pickup Truck Entry-level Luxury Car Minivan Compact Car Mid-size Car Luxury Car Full-size Car Subcompact Car Electric Vehicle -6.5% -1.1% -4.2% -10.2% -0.6% -4.2% -6.9% -7.6% -7.5% YOY Point Change -0.6% -0.1% -3.0% -1.6% -3.5% -4.1% -5.1% -1.3% -1.8% 0.3% 1.3% 0.5% 0.3% 6.2% 5.7% -15% -10% -5% 0% 5% 10% Source: Cox Automotive - KBB Auction Values 28

29 Retained Value of MSRP by Non Luxury OEM Sales strategies have lasting impact on valuations, and customer loyalties MY Retained Value Subaru 78.4% Honda 72.0% Toyota 68.3% Jeep 65.9% Mazda 64.7% GMC 64.1% Scion 62.5% Ford 61.6% Chevrolet 61.7% Mini 60.8% Kia 59.9% RAM 59.0% Dodge 59.4% Nissan 58.9% Volkswagen 58.2% Mitsubishi 57.7% Hyundai 57.7% Chrysler 53.2% Fiat 47.1% 0% 20% 40% 60% 80% 100% YOY Point Change Subaru -0.9% Honda -1.9% Toyota -2.1% Jeep -5.9% Mazda -0.8% GMC -4.5% Scion -5.7% Ford -1.0% Chevrolet -3.5% Mini -6.0% Kia -3.3% RAM 5.2% Dodge -5.0% Nissan -7.5% Volkswagen 0.3% Mitsubishi 0.5% Hyundai -5.5% Chrysler -3.1% Fiat -4.0% -10% -5% 0% 5% 10% Source: Cox Automotive - KBB Auction Values 29

30 Retained Value of MSRP by Luxury OEM Wide differences among premium manufacturers MY Retained Value YOY Point Change Porsche 85.8% Porsche 6.5% Land Rover 81.9% Land Rover -3.0% Lexus 77.3% Lexus 6.0% Acura 71.7% Acura -3.2% Audi 70.4% Audi 1.4% Volvo 69.7% Volvo 10.2% Infiniti 70.3% Infiniti 0.0% Mercedes-Benz 67.4% Mercedes-Benz 0.3% Jaguar 66.8% Jaguar -2.0% BMW 62.1% BMW -5.7% Cadillac 59.6% Cadillac -5.7% Buick 58.6% Buick -3.7% Lincoln 58.6% 0% 20% 40% 60% 80% 100% Lincoln-7.4% -10% -5% 0% 5% 10% 15% Source: Cox Automotive - KBB Auction Values 30

31 Loan Terms Length Keeping monthly payments low leading to longer terms and reducing future sales Source: Experian Automotive 31

32 Jan-2014 Jul-2014 Jan- Jul- Jan- Jul- Jan-2017 Jan-2014 Jul-2014 Jan- Jul- Jan- Jul- Jan-2017 Monthly Payment Longer loan terms, higher subsidies are stabilizing payments; Falling Spread unfavorable to leasing Monthly Payment $600 Spread: Loan Over Lease $120 $550 $500 $450 $ $ $110 $100 $90 $80 $400 $70 $60 $62.54 $350 $50 Avg Lease Payment (36m term) Avg Loan Payment (69m term) Source: Dealertrack 32

33 Summary Trump victory a surprise and economic policies have shaken the markets both good and bad but uncertainty is not a positive contributor to economic growth. Economic outlook remains on sound footing: robust job growth, stable consumer spending, low inflation however business cycle timing suggests a change is coming. What? Monetary and fiscal policy mistakes are possible. Auto credit conditions now changing: growth now slowing, interest rates and subprime delinquencies rising. Pull-back in availability occurring. Auto Bubble Forming/Popping? High leasing rates + long-terms overselling market; flood of off-lease vehicles lowering auction prices, impacting residuals, making auto loans less attractive. Will be a headwind for next few years. Does weakness in automotive sector lead to economy-wide slowdown? Seems unlikely as long as job growth + low interest rates continues 33