Old Cars Providing New Opportunities

This month it was widely reported that the average age of cars and trucks on U.S. roads is almost 11 years, the oldest ever recorded. In other words, the average car in U.S. was sold in 2000. While car sales have improved, rising 10% to 12.8 million in 2011, the absolute level remains below the traditional replacement level of around 16 million. Since there is not a large scale substitute for owning a car or truck, investments in mass transit remain modest in this country, a logical conclusion is that people need to begin replacing older vehicles, in my view.

Ford (Ticker F), reported disappointing results relative to analyst expectations, producing an EPS after one-time items of $0.20 versus expectations of $0.25. Weakness in Europe and flooding in Thailand were the primary cause of the disappointment. European sales may continue to slide as the economy deteriorates due to austerity measures aimed at reducing sovereign debt. Asia demand appears healthy with Ford expecting to build seven new plants in the region, although the company expects to cut some production in the region during the first quarter. U.S. sales increased 11% in 2011 and the company grew its market share, the best signal, in my opinion, of improvements in the business. My takeaway on Ford is that company is improving its business but worries about soft demand outside of the U.S. may keep the stock price from appreciating.

Taking into consideration the macro thesis of an aging fleet of vehicles in the U.S. and the Ford-specific data points suggesting earning should remain healthy, albeit muted, I believe the best investment position is in Ford debt and U.S. commodity suppliers.

Ford (Ticker F) - My ~4% position in Ford debt (CUSIP 345370BJ8) offers a yield of about 6%, attractive in these markets when considering there may be some upside in price, in my opinion, should the company continue to improve.

US Steel (Ticker X) - My ~8% position in US Steel debt (CUSIP 912909AD0) should benefit from growing automobile demand within the US. An additional demand driver is steel requirements in domestic oil and liquid gas drilling. Costs for US Steel should decline due to the lower price for natural gas, to which management has increasing switched from coal. In a November 2011 presentation management stated they felt natural gas would provide cost saving at or below $5 mmbtu. Recently the cost of natural gas has fallen to around half this price. These factors of anticipated growth in domestic automotive sales, oil and liquid gas drilling, and falling natural gas prices are the reason for my relatively large position in US Steel debt, which is yielding over 8% at current prices. The dividend yield on the stock price of US Steel is below 1% and the PE on the 2012 consensus EPS estimate of $2.48 is about 12x, interesting but not yet exciting in my opinion. I do not expect management to increase the dividend until the price of the company's debt recovers, again suggesting that the better position is in the debt as opposed to the equity, in my opinion.