The Chip Shortage Could Last Years. It Isn't All Bad for Auto Stocks. - Barron's

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RBC analyst Joe Spak says the chip shortage choking auto production could last years. The crunch has been good for vehicle mix, however.

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The automotive-semiconductor shortage is constraining global car production, leading to low inventories and high prices for new and used vehicles. It could last for years. That isn’t all bad for car stocks, however. Still, it’s better to sell cars when consumers want them, instead of hoping that demand for new vehicles will remain when the chip shortage is eventually resolved.

The chip shortage is a result of many factors. For starters, car companies stopped ordering supplies at the onset of the pandemic. Cash conservation was of paramount importance as demand dried up. Consumer-electronics companies didn’t react as severely, and when car demand came back stronger than expected, the capacity for chips just wasn’t there.

Acts of God didn’t help either. A fire at a chip plant in Japan limited production. So did the cold weather snap in Texas. Now Covid is hurting production again in Malaysia.

“Many, if not all, of these factors would appear to be transient,” writes RBC analyst Joe Spak in a Sunday research report. “There could be structural reasons why semi capacity may limit automotive production over the coming years.” Chips might be in short supply for a long time. He cites a couple of reasons.

First is electric vehicles. EVs require more semiconductor technology, writes Spak. Managing power from batteries along with charging curves are all, essentially, computing problems. Autonomous-driving features increasingly common on cars also require lots of computing power.

Next is what Spak calls “automotive inflexibility.” Automotive chips tend to be older, more-proven technology. The car business prioritizes reliability. But chip companies don’t like investing in older tech.

Another factor mentioned tangentially by Spak: the consumer-electronics industry isn’t going to shrink. It will demand more and more chips in the future.

One fix is for car companies to adopt new technology, but that will take time. He says that could benefit Aptiv (ticker: APTV)—a parts supplier that manages electrical architecture in vehicles. He rates the stock at Buy and has a $188 price target.

Spak says global light-vehicle production could be limited to about 90 million cars a year for the foreseeable future—regardless of what vehicle demand turns out to be. That’s flat with average production from recent, pre-pandemic years. That means new vehicle inventories will be lower for longer. That isn’t all bad for the industry, though. That would mean better pricing for auto makers. Car companies would also build the nicest cars. The chip shortage has been good for vehicle mix.

Car stocks are still doing well, despite the shortage. The mix and pricing benefits have far outweighed any negatives so far. Ford Motor (F) stock is up 53% year to date, better than the 18% and 16% comparable, respective returns of the S&P 500 index and Dow Jones Industrial Average.

General Motors (GM) stock is up 27% year to date. Still, GM stock is down almost 9% since the company gave disappointing earnings guidance for the second half of 2021 on its Aug. 4 earnings conference call. There are a few reasons for weaker-than-expected guidance, but the chip shortage is one of them.

The industry might benefit from low inventories, but investors still have to deal with volatility from the chip situation.

The biggest risk for the auto industry might be that car demand could dry up before the chip situation is resolved. Then the cars consumers want to buy today might never be sold.

Write to Al Root at allen.root@dowjones.com

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