When completing lease agreements, the future residual values of the assets on offer are always on the minds of fleet lessors. Saad Ahmed speaks to Fleet Europe’s Carlos Montero and Grant Thornton’s Richard Parkin about current residual value trends in the automotive industry
Many factors can influence residual values and how they are calculated. The risk of actual residual values differing from their initial projections is real, and may result in considerable financial loss to the original lessor. Following the global financial crisis, residual values in the automotive industry plummeted.
Carlos Montero, chief executive officer at Fleet Europe, tells Motor Finance: “Residual values can be the biggest cost to fleets, with some vehicles depreciating quicker than others depending on what they are and how many of them are in the marketplace.”
Montero adds that the dynamics of the used market have the greatest effect on residual values. “Vehicle specifications, market auction prices and historical data influence where prices are set,” he explains. “Ultimately it comes down to what the used car market wants.”
Counting the cost
“The largest fleets tend to have quite detailed models that take in all sorts of statistical correlations with GDP, fuel price, [and others] that they apply to get a view,” Richard Parkin, associate director, strategy group, advisory at Grant Thornton tells Motor Finance.
Focusing on fleet lessors, he says inflation on new vehicles is a dominant factor affecting the calculation of residual values. “In terms of residual values, the main factor in play is new price inflation, which is partly driven by OEMs, but also by foreign exchange [rates], typically with the euro,” Parkin explains.
The reason exchange rates can have such an impact on residual values is that international trade makes up the majority of the market, and therefore fluctuating exchange rates can have a large impact on vehicle prices.
Since the UK voted to leave the EU in 2016, the value of the pound relative to the euro has fallen sharply, from just under €1.30 the day before the referendum to €1.15 at the time of writing.
Parkin, however, says that with currency hedging by manufacturers continuing into the plate change, the pound’s devaluation has not yet had a significant effect on residual values.
The fuel factor
In terms of asset class, diesel vehicles have seen some movement in residual values. This year the UK government announced plans to reduce diesel emissions. Some measures, such as the increase in Vehicle Excise Duty (VED) on vehicles that do not meet emissions standards, make some models more expensive to run.
However, rather than cause downward pressure, a last-minute surge in sales just before the VED increase came into effect led to a rise in diesel vehicle values on the secondary market.
“There was actually a scramble and a little uplift [in diesel sales] just before the change so people could buy certain types of vehicle,” Parkin says.
“If you’re the right side of the change, sometimes that can be beneficial because the tax is always going to be the same, and people bought those vehicles for a reason.”
Montero says electric vehicles (EVs) have seen their residual values rise, as their abundance and availability on the secondary market increase.
“Residual values on electric vehicles are strengthening, and will continue to strengthen as more people continue to become more educated in the way they view electric vehicles and how they perform,” he notes.
Hybrids, rather than suffering from EVs entering the secondary market, have actually benefited. Providing a stepping stone to full electric vehicles, hybrids have successfully hitched a ride on the EV wave, and residual values are rising as a result.
“We’ve seen registrations of [plug-in petrol-electric hybrids] go through the roof, percentage wise,” Montero says.
“Hybrids have strengthened as well, in line with electric vehicles – if anything just as a stepping stone to an electric vehicle.”
While residual values involve many calculations, there is no guarantee that these numbers will hold true in the future. Following the global financial crisis in 2007, residual values cratered across a variety of asset classes. As late as 2009, residual values continued to fall across the board, and lessors felt the impact.
Parkin says residual values on vehicles collapsed due to oversupply. Fewer new cars were being sold, and they essentially went directly to the secondary market. The result was a price collapse.
“After the recession in 2009, we saw some very odd behaviour in residuals,” he says. “They cratered in 2009 because people just stopped buying new, and there were all these new vehicles still being churned out.”
Parkin adds that the Brexit vote, rather than depress residual values, led to price inflation. “If something now costs 20% more new, then people will stop buying new and buying nearly-news,” he says. “It shifts demand down. The effect is to inflate residual values down the curve.”
Montero believes EVs will not affect the residual values of hybrids in the near future. “There probably needs to be a lot more EV registrations to have more of an effect on the residual value of [hybrids],” Montero explains, noting that EVs had only recently begun to enter the secondary market.
He claims, however, that residual values of more established hybrids may fall as competition rises. “The brands with more established lifecycles, such as the Outlander, may see some residual values dip because they’ve taken a bit of a head in the market at the moment,” he says.
Parkin does not expect London’s toxicity charge for diesel vehicles to have a significant effect on residual values for diesel cars.
“The change isn’t expected to happen until 2019,” he says. “My experience of the automotive market is it tends to react at the last minute. It’s really not going to apply to a bunch of people; it is, relatively speaking, a small area.”