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If Henry Ford Could See Us Now

Stephen Roseman

A car, SUV, or pickup truck is still, at its core, a method of conveyance. Its utility to a driver hasn't changed since the first of the mass-produced cars rolled off the assembly line in 1908 (the Model T, for you trivia buffs).

What has changed is everything else that vehicles offer drivers today. We have satellite-connected navigational systems, entertainment systems, seat heaters, and anti-lock brakes. Airbag systems are so extensive that a car would resemble a puffer fish were the bags to deploy. The list goes on.

These options and niceties, known as "content" in the auto industry, come at a price to consumers. Who wouldn't pay a little more to keep their loved ones safe and comfortable? However, it becomes a slippery—albeit well-cushioned—slope, as consumers get used to these little extravagances. (Doesn't everyone need seat heaters if there's another Polar Vortex?)

In the ensuing arms race to equip vehicles with features, the average car price has steadily increased, contributing to higher revenues and margins for the auto manufacturers, as well as windfalls for the formerly stodgy but now-not-so-boring parts suppliers.

Companies are benefiting materially from both the recovery in new vehicle sales as well as from an increasing appetite for more content. This opens up new investment opportunities, and the astute investor can profit if they can identify the winners in this comfort-and-convenience race.

Rules of the Road
Because of the highly cyclical nature of the auto industry, it's especially important that investors remain mindful of when the full benefit of the recovery in auto sales is priced into the auto stocks. We remain confident that the recovery in the SAAR (seasonally adjusted annual rate), the measure of total units sold, will continue as the economy recovers.

One way to take advantage of the SAAR recovery would be to invest in the auto industry by buying a basket of stocks—the "rising tides lifts all boats" approach. Instead, we think that the smarter way to invest in the auto industry is to identify companies that aren't just benefiting from SAAR but that have the cycle-insulating benefit of getting more of their content into cars as well. We also like the idea of having exposure to Europe, where recovery has lagged the U.S. so far, but may offer some faster acceleration down the road.

When it comes to understanding the auto industry and the most compelling companies, our fundamental research process includes many of the things you'd likely expect—analyzing balance sheets, dissecting corporate filings and listening to conference calls with management teams. However, our investment theses reflect a much more comprehensive approach, with insights gathered from multiple perspectives—including automakers, parts manufacturers, auto dealers and wholesalers, and lastly, consumer-oriented buying sites. We scour trade magazines, speak to individuals throughout the industry and attend trade shows. These sort of hands-on efforts provide us with valuable information about what consumers want most and which companies are doing the best job meeting those needs.

Drawing on this firsthand research, we've identified a variety of companies that we believe are well positioned to take advantage of consumer trends, such as those related to fuel efficiency. As automakers have to adhere to ever-more-constrictive CAFE standards (read: fuel economy), they recognize the importance of making their cars more fuel efficient (and less polluting). We also see growth opportunities for companies that are at the leading edge of infotainment, safety, and the connected car.

As always, when investing in this sector, a thoughtful and reasoned approach, along with thorough research and due diligence, helps us to find the companies that we believe will be in the winner's circle.

The opinions referenced are as of the date of publication and are subject to change due to changes in the market or economic conditions and may not necessarily come to pass. Information contained herein is for informational purposes only and should not be considered investment advice.

The information in this report should not be considered a recommendation to purchase or sell any particular security.

CAFE is an acronym for Corporate Average Fuel Economy, which are U.S. federal regulations related to fuel efficiency.

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