The used car market has adopted a Swiss Army-knife approach to managing the “off-lease tsunami,” which turned into a manageable rising tide. Are new market dynamics breathing life into a segment left for a dead, the midsize sedan?
You know when weather forecasters call for a Category 4 hurricane, and it ends up dissipating to a tropical storm before reaching land? That’s always a good thing — and perhaps an apt analogy for the used car market.
The big story in remarketing a few years ago was the coming “off-lease tsunami,” when lease returns generated after the Great Recession would saturate the market and depress prices. “The market has held up better than the headlines back then implied,” says Tom Kontos, KAR Auction Services’ chief economist.
Jonathan Smoke, chief economist at Cox Automotive, agrees. Both call the phenomenon a “rising tide” rather than a tsunami.
“The market has clearly gone through a progression to a significantly higher level of those vehicles coming back to the market,” Smoke says. However, “The market was able to absorb those vehicles in a way that didn't cause any supply pressures on price.”
Smoke is referring to the fact that the used car market is finally about to hit its off-lease peak, as an all-time high of 4.1 million lease vehicles reach maturity. Luckily, the used car market has adopted a Swiss Army-knife approach to managing the load.
“The industry is doing a good job of dispersing that volume in such a way that it isn't really flooding any particular geography or channel,” Kontos says.
Car rental, the largest fleet consignors, are key contributors to this multi-channel approach. This year, Avis Budget Group will sell more than 70% of its fleet, a record high, through “alternative disposition channels.” Avis now has 13 used car sales outlets and grew its direct-to-consumer sales 136% this year compared to last, according to third-quarter data.
Meanwhile, Hertz sold 9% more vehicles in the third quarter year over year through 88 retail outlets that continue to expand.
A Hot Party
The used car market is a pretty hot party these days, as record-high new vehicle prices have driven buyers to used. As such, used car outlets have responded with more financing and warranty options and robust Certified Pre-Owned programs.
These factors, along with the fact that vehicles are simply built better today, have made used vehicles more attractive to buyers who perhaps a few years ago wouldn't have thought about buying used, Smoke says.
The wholesale market has gotten smarter in recent years, even more so as data flows from connected rental vehicles. “(Car rental companies) have a holistic view of the purpose of a vehicle beyond its rental usage, including its optimal form of disposition,” Smoke says. “That causes them to buy differently, to explore alternative channels, and to push the envelope of data science to find more and more ways to optimize that transaction.”
Kontos also credits the growth and sophistication of “upstream” remarketing, in which vehicles are diverted from brick-and-mortar auctions to online sales or retail lots.
Upstream sales include off-rental, repossessions, and dealers’ consigned units. Yet the biggest volume comes from automakers’ captive finance companies selling off-lease vehicles to their dealers through white-labeled online auctions.
“We see that the take rate of those upstream vehicles has helped make the volume that actually went to auction more manageable,” Kontos says.
The used car market also has an eager, growing source of demand — drivers for Transportation Network Companies (TNCs). Hertz and Avis are diverting thousands of off-rental cars from auction to programs for Uber and Lyft drivers.
“I certainly think some of the strength in the retail used vehicle market has been because of vehicles being used for rideshare,” Smoke says.
Segment Shifts
The rise of TNC use is driving shifts in model preferences.
“A few years ago, it looked like the midsize car was out of favor,” Smoke says. “But ironically if you talk to Uber and Lyft, the most demanded vehicle is a midsize sedan because it represents the optimization for the driver of efficiency, price, and performance.”
Another new source of demand for sedans is the subscription market, according to data from Clutch, a subscription technology platform owned by Manheim’s parent company, Cox Automotive. During weekdays on the platform, Smoke says midsize sedans are seeing the highest demand, and that demand outpaces the midsize models available in the new vehicle marketplace.
Smoke surmises that consumers involved in subscription programs will opt for a sedan because in most cases, such as commuting, they prefer a slightly smaller vehicle that is easier to park and navigate. Larger vehicles are available when the use case arises.
“We went from seeing midsize cars underperforming in the market to being one of the strongest performing segments,” Smoke continues. “Of course, that was timed with suddenly fewer (sedan models) being available in the new vehicle market too.”
Does that mean that crossovers — with seemingly endless new models and iterations in the past few years — are falling out of favor? The crossover product launches continue unabated, in large part because they deliver higher price points, and thus higher premiums, to manufacturers.
“I do believe that crossovers have reached a saturation point in the new vehicle market,” says Smoke, adding that the warning signs can be seen in elongated days’ supply of new crossover models. On the back end, as that rising tide of leased vehicles matures, an overabundance of them will be crossovers.
Kontos points to the issue of model proliferation and says the used car market is more “make agnostic” than the new car market. “Dealers that are buying cars to stock their used car lots don't necessarily care if it's a Mazda, a Ford, or a Nissan,” he says, and this abundance of choice of crossovers will lead to a general price softening.
The data may be starting to bear this out. Black Book reported depreciation rates for popular fleet segments in the past 12 months, as of July 1:
Contrast that data against Black Book depreciation rates for the past 12 months, as of Nov. 1:
The data not only shows an overall softening of the market across most segments, but also that midsize sedans have almost reached depreciation parity with compact crossovers.
Moving forward, the market is finally showing the signs of softening we had expected much sooner. Always looming are the specters of sustained new vehicle discounting, credit tightening, or a downturn in consumer confidence, which could further exacerbate an oversupply situation.
“The used car market has withstood the growth in volume very admirably, but I still preach caution,” says Kontos. However, “There's still a lot of pressure on pricing from supply. And there might be more incentive activity on new vehicles that would push down used car values.”
The industry’s scientific approach to channeling vehicles through the used car market will help to dissipate any issues. “We think that the market is going to stay very strong for the foreseeable future, assuming we don't see the economy deteriorate,” Smoke says.
