Our team held the quarterly Manheim Used Vehicle Value Index call last week. We reviewed the used-vehicle market performance through the final quarter of 2021 and provided our forward-looking view of the market into 2022.
A key topic in the discussion, of course, was the elephant in the room: Has the recent run-up of used-vehicle prices set the market up for a crash in 2022?
There is no doubt that last year was a remarkable one for the market. As my colleague Kevin Chartier, vice president of Manheim Consulting, noted during the call, “2021 was the perfect storm: massive financial stimulation thrown into a re-opening market, just as new-vehicle availability collapsed.” In those conditions, it’s no surprise used-vehicle values ended the year well into record territory leading some industry analysts to call for a pending “crash” of used-vehicle prices.
But here’s the bottom line: The fundamentals of the market do not support such a scenario.
The core argument behind the crash scenario seems to rest on the premise that retail used-vehicle prices and retail new-vehicle prices are severely out of whack. But in fact, the relationship—the gap between new and used—is not very far from the range experienced within the last decade.
In 2019, the average new-vehicle price was 179% of the average used-vehicle price. In 2021, the average was 163%. The gap in 2021 narrowed because used-retail prices increased 25% while new-vehicle average transaction prices (ATPs), according to our Kelley Blue Book team, increased around 14% in 2021.
The gap between new- and used-vehicle prices is not static, as it varies substantially over time. In 2014 it averaged 167%. This was following a very strong spring for used-vehicle values. The market did not see a major or fast market price correction as a result. It merely saw 24 months of above-average depreciation in the second halves of 2014 and 2015 and much of 2016, which was also when the new vehicle market was at peak supply and demand started to weaken.
It is our view that used-vehicle prices are not substantially out of alignment with new vehicle prices. Going forward, we expect used vehicles to depreciate in 2022. New-vehicle prices, however, are likely to see continued above-average inflation, as inventory levels improve but remain historically tight, and the mix of new vehicles produced favors expensive SUVs and trucks and new electric vehicles. That means, by year-end, the relationship between new and used prices could be back within historical norms and there would be no basis to judge values as being out of alignment.
A significant crash in used-vehicle prices—a drop of 20% to 30%, as one well-publicized report suggests—is highly unlikely. History tells us that a decline of more than 10% is rare indeed. Why? As prices fall, demand builds. In 25 years, we have never seen a decline of as much as 13% within a year. A few points to consider:
- Following the 9/11 terrorist attacks in New York City in September 2001, used-vehicle values declined 5.7% over 2 months as the economy struggled to get back on its feet. Values fully recovered within 6 months.
- In the lease implosion in the fall of 2002, used-vehicle values declined 11.3% over an 8-month period and took 35 months to fully recover. This, however, was a relatively unique market problem, with far and away too much new and used supply.
- In 2008, when the global financial system was close to collapse, used-vehicle values declined 12.6% over 3 months. Values took 7 months to recover.
- In 2020, at the start of the pandemic, when the economy came to a standstill, values declined 10.1% in 1 month and were fully recovered 3 months later and headed into record territory.
The fundamental conditions are simply not in place to deliver even a double-digit correction in the coming year. Wholesale used prices have never seen a greater than 5% correction without an extreme oversupply situation. And we don’t see that happening. Just the opposite: With declines in sales to fleets and leases since 2019, the sources of wholesale vehicles are constrained at least through 2023. And there remains pent-up demand as a result of last year’s lack of supply. Furthermore, new-vehicle supply is likely to remain constrained at least through 2022.
On our call last week, there were questions about the potential negative equity consumers could be facing, having paid “too much” for a used vehicle in recent months. Again, we think those concerns are overstated.
Vehicles have been bought and sold at market prices, and comparisons to pre-pandemic values are misleading. We’ve had a step-change in values, and values have never gone back to prior levels, even with recessions. As long as there is inflation in new vehicle prices and in the economy, values will rise. Therefore, it is extremely unlikely that we will ever see 2019 values again. Auto credit does not face a growing negative equity problem.
Vehicles are depreciating assets. Auto loans are underwritten with that in mind and are designed to have negative equity throughout their terms. With higher down payments combined with appreciation already experienced in 2021, current auto loan-to-value ratios are lower, not higher. If we merely see above-average depreciation in 2022, risks will not grow for lenders and investors. Buyers will not be faced with negative equity challenges that are any different from what we experienced prior to the pandemic.
It is true that used-car margins will contract, but they are likely to remain above what they were pre-pandemic through at least the first half of 2022. Dealers need to be careful about acquiring and managing used-vehicle inventory as the peak in used-vehicle values approaches and a more normal pattern of depreciation returns. Barring economic catastrophe, however, we won’t see a return to pre-pandemic levels in used-vehicle values. We are forecasting wholesale used-vehicle values to lose about 3% year over year by the end of 2022. No one, dealers nor consumers, needs to worry about a crash in used-vehicle values.
Jonathan Smoke is the chief economist for Cox Automotive.