Many significant emerging markets have been in trouble since 2013, with market geography implications for OEMs.

Many significant emerging markets have been in trouble since 2013, with market geography implications for OEMs.

In the full year 2014, Argentina, Brazil, India, Russia, Thailand & Turkey are set to become an even greater drag on global light vehicle markets than in FY13, declining by at 9.1% or 1.1m to 11.13m units. In the previous five years and during the global financial crisis they were key drivers. Sabine Blümel considers the implications for the industry. This first part is an overview.

Most affected by the slower prospects for these emerging markets are global OEMs with emphasis on non-premium brands - Toyota, GM, Ford, Hyundai group & Renault-Nissan. The VW Group benefits from its premium brands Audi and Porsche.

EMs in 2007-12

Although relatively small individually, the six emerging markets that we are discussing in this briefing, Argentina, Brazil, India, Russia, Thailand & Turkey played a key role in global light vehicle sales during the financial crisis and even more so in the ensuing recovery. Between 2007 and 2012, the light vehicle markets in these six countries grew by 52%, from a combined 8.43m units in 2007 to 12.82m in 2012, adding an accumulated 4.4m units, driven by strong economic growth and rising wealth and purchasing power. They thus outperformed a global market that had grown just 15% from 70m in 2007 to 81m in 2012, raising their global share from 12% to 16%.

In 2008-09, during the depth of the global financial crisis, global light vehicle sales (that include passenger cars and light commercial vehicles) shrank almost 10%, from more than 70m units in 2007 to under 64m in 2009, representing an accumulated loss of 6.45m vehicles. This was despite a booming China and resilient emerging markets. Indeed, thanks to generous government stimuli, the Chinese economy boomed and its vehicle market grew strongly, by 61% from 8.1m in 2007 to 13.0m in 2009. Emerging markets in general remained more resilient than mature ones (most even managed to avoid recession) and their aggregated sales declined only slightly (by 3.1% or 260,000 units) from 8.43m in 2007 to 8.18m in 2009.

The six emerging markets' contribution to the global recovery in global light vehicles sales was over-proportional, contributing 1.77m units or 18% to the growth in global light vehicles sales by 9.7m units in 2010, 1.52m or 48% of 3.2m units in 2011 and 1.36m or 31% of 4.4m units in 2012. In 2011-12, the six emerging markets' growth contribution even exceeded that of China.

EMs in trouble since 2013

However, in 2013, light vehicle sales in the emerging markets shrank by 4% or 0.5m units to 12.3m and are expected to shrink by at least another 9% or 1.1m units in 2014, to less than 11.2m units. There is hope, but also a considerable downside risk for a partial recovery in 2015. Since 2013, China and the US have been the key drivers of global light vehicles sales. As a result, the six emerging markets share in global annual light vehicle sales has fallen back again to less than 15% in 2013, and is heading for just under 13% in 2014.

The trouble for emerging markets started with the prospect of the end of cheap money. Since May 2013, when the US Federal Reserve publicly contemplated for the first time that it may at some stage begin tapering asset purchases under its QE programme, underlying macroeconomic fragilities have been increasingly exposed in mid-income emerging economies. The prospect of a slowdown and eventually end to quantitative easing in the US and cheap money in mature economies in general, led to a rather immediate and abrupt reversal of global capital flows away from higher-yielding emerging markets, laying bare their underlying macro-economic problems and short-comings.

The impact on emerging markets was immediate and is bound to continue to affect their economies well into the medium-term. The typical, knee-jerk reaction of a central bank to stem or limit capital outflows and a dramatic weakening of their currency is to aggressively raise interest rates. The tighter monetary environment becomes entrenched and thus has a knock-on effect on the macro-economic environment and outlook, hitting consumer confidence, private consumption and thus cars sales.

In addition to a weaker medium-term macroeconomic outlook, car sales in affected emerging markets have greatly suffered from weaker currency and higher interest rates. Emerging markets are in trouble for different reasons and have to contend with different issues, but we estimate that on average emerging markets (in our report) are burdened by a 10% weaker currency and an increase in interest rates by some 200 basis-points.

A sharply weaker currency affects first and foremost the affordability of cars, mainly for imported cars, but also, to a lesser extent for locally assembled ones, due to a large proportion of imported components, often reducing local content to 40% or less. The price elasticity is particularly high in the volume segments. Here, a car manufacturer's pricing policy is therefore a difficult and challenging trade-off between volume and value.

Second, a weaker currency also tends to lead to higher fuel prices and as such greatly affects the running costs of a car. However, in a number of EMs fuel prices are regulated and subsidised.

Third, car loans and financing have become more expensive and in many cases also restricted, thus further reducing the affordability of cars.

All three factors - higher sticker prices, higher fuel prices & running costs and higher financing costs - are affecting mainly the volume segments. Sales of premium cars have remained buoyant and have actually continued to grow, despite drastic price increases. However, premium brands play only a minor role in emerging economies, accounting for less than 10% in Russia and Turkey, and 3% or less in the other markets in this report.

The phenomenon we are currently seeing is not of a singular crisis for emerging economies, but a number of small crises, or just considerably deteriorating economic outlook that take a different shape in the various economies.

The medium-term demand outlook for the EMs remains depressed and carries a considerable downside risk. The negative impact on OEMs should be exacerbated by additional production capacity that is due to go on line during the next couple of years. However, in the long-term, emerging markets provide considerable and superior growth potential for light vehicle sales, compared to stagnation at best in mature markets, as growing wealth and purchasing power drives car ownership; not to mention a growing population of driving age.

The car manufacturers most affected by the temporary weakness in emerging markets are global OEMs with emphasis on non-premium brands - Toyota, GM, Ford, Hyundai group and Renault-Nissan. Sales of premium cars in the emerging markets have actually increased in 2013 and so far in 2014, which is attributable to the low price elasticity of demand and customers' independence from car financing. Here, the main beneficiaries are the BMW Group, Daimler's Mercedes-Benz, VW's Audi, Porsche, Lamborghini and Bentley and Tata's Jaguar & Land Rover. The VW Group, though exposed to the volume segments in most emerging markets, benefits from its premium (Audi and Porsche) and luxury brands (Lamborghini and Bentley).

In the main, it is GM, VW Group, Fiat-Chrysler, Ford and Renault-Nissan are affected by developments in Argentina and Brazil, while Japanese and Korean OEMs are affected by the market weakness in Thailand and India. In Russia, where the economic problems are rather home-grown and likely to be more drawn out, the manufacturers most affected are Renault-Nissan, GM, Hyundai Motor, Toyota and VW Group. In Turkey, for Renault-Nissan, Ford, Fiat-Chrysler, Toyota and Hyundai Motor the negative impact from the decline in local demand and currency should be mitigated by better export opportunities.