Economic pinch deflates used car ‘bubble’

The South African Reserve Bank raised the repo rate 50 basis points last week, inflicting unanticipated pain on borrowers already navigating precarious economic conditions.

The ratcheting-up of interest rates globally has raised questions about whether the vehicle industry can withstand consumers being squeezed out of the credit market. 

The used vehicle market — which made exponential gains as economies recovered from the Covid-19 pandemic — has not been exempt from this pressure, with some speculating that the bubble may be about to burst. The more likely scenario is that South Africa’s market will gradually lose air.

Data released this week signalled coming pressure on the car industry as vehicle buyers adjust to higher interest rates. 

We buy cars?

New vehicle sales reported by the Automobile Business Council declined 0.6% year-on-year in March. This was after the market previously recorded 14 consecutive months of year-on-year growth.

The Reserve Bank’s decision to hike interest rates by 50 basis points “is already having an impact on a shrinking disposable income purse many consumers rely on when making new vehicle sales decisions”, the council said on Monday. 

The hike lifted the repo rate to 7.75% and the prime lending rate to 11.25%. The Reserve Bank has lifted rates by a cumulative 425 basis points since November 2021 after it slashed the repo to 3.5% in the wake of Covid-19’s economic onslaught. The repo rate is now 125 basis points higher than it was prior to the pandemic.

Mikel Mabasa, the council’s chief executive, noted that for many households, buying a new car is the second-most important investment. “The perceived continued increase in interest rates would likely have a negative impact on the already severely financially constrained consumers’ affordability to purchase vehicles and/or to service their car loan repayments,” the council said.

Although Transaction Capital’s recent woes more notably exposed lashes to its taxi financing business, SA Taxi, it also signalled softening of the used car market, into which the firm gained entry through its investment in WeBuyCars in 2020.

Transaction Capital endured a brutal sell-off last month after it warned shareholders that it expected its interim earnings to fall by more than a fifth. The company’s share price, which rose to lofty levels during 2021 and the beginning of 2022, is still 58% below what it was a month ago.

In its March trading statement, the firm flagged “some margin pressure” for WeBuyCars during the first quarter of 2023, which was expected to result in earnings decreasing by not more than 20% for the half year ended 31 March 2023.

“This should be considered against an extremely high comparator base in the first half of the 2022 financial year,” Transaction Capital said, underlining the firm’s confidence that the business will grow earnings over the full year.

Bubble over?

When Transaction Capital announced its initial investment in WeBuyCars in September 2020, it flagged growth in the used-car market, which over the five years prior experienced a compound annual growth rate of 1.7%. 

At the time, WeBuyCars was selling about 6 000 cars every month, slightly more than in the months before the pandemic hit South Africa. During the year ending September 2022, WeBuyCars was selling about 12 000 cars every month.

The upturn in the used car market coincided with pandemic-related supply chain constraints, which caused bottlenecks in the new car market, motivating some to buy second-hand. 

By the fourth quarter of 2020, the used car prices began to increase at a faster rate than inflation amid inventory shortages. The used vehicle price index was 9.1% in the fourth quarter of 2022, compared with a consumer price index of 7.4%, according to credit reporting agency TransUnion Africa.

But tough economic conditions and stock problems have already started to exert pressure on the used car market. According to TransUnion’s data, the number of used vehicles financed fell from 83 490 in the fourth quarter of 2021 to 80 621 in 2022. 

Analyst and trader Simon Brown said the WeBuyCars business is less buoyant than it was when Transaction Capital first invested in it. “There are high interest rates. Those are obviously hurting consumers. We’ve got a consumer who is struggling with everything — load-shedding, transport costs, inflation, et cetera,” he said.

“WeBuyCars is going to struggle in that environment … They were going really, really fast and now that growth has pretty much halted. So in the immediate term it is a very tough space to be in. It is going to be hard to move stock. It is going to be hard to get stock in some cases.”

In the longer term, the used car market still has a lot going for it, Brown said. “But it is going to be tough for the foreseeable future.”

Perfect storm

Entry into South Africa’s car market is largely linked to one’s ability to access finance, noted Kriben Reddy, the vice-president of vehicle information solutions at TransUnion Africa. In 2007, prior to the global financial crisis, the new and used vehicle finance market was nearing a million deals, Reddy said. In 2018, there were 525 000 deals and in 2022, there were 492 000.

“There is almost this perfect storm brewing in South Africa … In essence, consumers are no better off or have not been able to massively improve their finances over those 15 years,” Reddy said.

The pinch on consumers, as well as upward price pressures and meagre GDP growth, has resulted in fewer potential car buyers opting to enter the market. In this environment demand for both new and used vehicles will inevitably soften. Those still wanting to get hold of a car, Reddy said, may find an option outside of the traditional market — such as leasing or subscription-based ownership — which is still so tied to vehicle finance.

South Africa’s new and used car markets are closely linked, Reddy explained. If new cars are not being sold, they never become used cars, hence the stock shortages and price pressures in the latter category. 

“There is always demand for good quality used cars. The problem is there is not always the same level of supply,” he said.

Last month, global consulting firm Ducker Carlisle said in a report that the used car market in the United States, which recorded especially high growth, had weakened. The used car bubble, the report noted, “seems to have burst since the second quarter of 2022” amid the easing of bottlenecks in the new car market.

Though the availability of new cars are expected to bring prices down, used car demand could soften because of inflation, weak consumer confidence and the concerns about a recession, Ducker Carlisle said.

In South Africa, there is an impression that a used car bubble has been created and that it has the potential to burst, Reddy said. But nowadays there are more mechanisms in place — such as longer-term financing agreements — which enable buyers to keep entering the market, even in tighter conditions.

“Now as long as consumers still keep re-entering the market, even under strained circumstances, the bubble might exist, but you keep pushing it out further and further. And if a problem does occur, I don’t think it will be at the scale of what happened in the US property market leading up to the global financial crisis,” Ducker Carlisle said.