Is General Motors Really This Cheap?

Favorable macro trends and company-specific improvement have helped General Motors (GM) remain a strong performing holding in our Top 20 Dividend Stocks portfolio.

Earlier this morning, the company announced some good news for shareholders. GM raised its 2016 earnings outlook by 5%, boosted its dividend by 6%, and increased its share repurchase plan by 80%. Shares advanced by 2-3% in early morning trading.

From a macro perspective, the auto industry is benefiting from record U.S. volumes, low borrowing costs, and strong consumer spending and employment. Low gas prices are also driving strong demand for GM’s trucks (38% of sales) and crossovers (25%).

GM expects slow to modest growth in 2016, not unlike what the company experienced in 2015. The company also noted “significant progress” on its strategic plan and said it reached its 10% operating margin goal in North America in 2015, one year ahead of schedule. Company-wide, GM said continued execution of its plan should keep GM on track to achieve 9-10% EBIT-adjusted margin by early next decade.

Despite all of the good news, GM trades at a forward P/E ratio of just 5.6 and has a forward-looking dividend yield of 4.9%. Investors clearly remain cautious on the company for several reasons, with fears of the auto cycle approaching a cyclical peak a leading concern.

Many analysts have been calling for the U.S. auto market to peak for the last several years. Market researcher HIS Automotive predicts the market will experience a pull back after 2017 due to higher consumer borrowing costs (as a result of rising interest rates), historical demand patterns, and a glut of vehicles coming off leases (which could reduce demand for new car sales).

Others fear that auto companies have lowered their lending standards by too much in an effort to boost near-term sales. According to data from the Federal Reserve Bank of New York, over the six months through September 2015, more than $110 billion of auto loans were originated to borrowers with credit scores below 660, the bottom cutoff for “good” credit scores. Roughly $70 billion of that amount went to borrowers with “bad” credit scores below 620.