Is Tesla driving into physical limits in the economy?
Head of Equity Strategy
Summary: Tesla has been one of the strongest consumer discretionary stocks since May but yesterday's negative price action amid a strong rebound in US equities is sending a signal that investors are getting nervous. One thing is the Q3 deliveries miss against estimates but elevated lithium prices are hurting on input costs and the cost-of-living crisis is beginning to lower demand significantly across many consumer discretionary categories including cars. Tesla is facing growing downside risks against a very rosy outlook priced into the stock with analysts expecting 42% revenue growth in 2023.
Tesla shares down 9% in a strong equity session is a strong sign of nervousness
Yesterday’s strong US equity session was sending some odd signals as we would typically expect high beta and growth pockets to rally more than the market, but it was instead theme baskets such as defence and commodities that rallied. Adding to this interesting session, Tesla shares were down 8.6% being the only mega cap stock (the 40 largest stocks in S&P 500) that was down more than 1%. A big part of the move in Tesla was of course due to Q3 deliveries missing estimates (343,830 vs 357,938) which Tesla said is due to logistical issues, but the pressure is on Tesla now as the EV-maker has to produce 450,000 cars in the last quarter to meet its 50% annually target that it has set. This seems to be a quite steep target to reach.
One thing is the logistical issues in the global car supply chain, but there are two other growing risk sources for Tesla. So far, Tesla has been immune to the cost-of-living crisis caused by the galloping energy crisis which has led Tesla to significantly outperform the global consumer discretionary sector (see chart below). However, with elevated electricity prices and high inflation due to high energy and food prices, the demand is coming down sharply for many consumer companies hitting Apple, Nike, and H&M recently. This is probably the biggest risk to Tesla’s outlook which is still very optimistic with analysts expecting 42% revenue growth in 2023, something we find hard to be achievable given the development in electricity prices and disposable income.
In addition there are two hard physical constraints on Tesla’s growth trajectory. The first one is the price of lithium which remains elevated at very high levels putting pressure on battery prices and thus the price on electric vehicles. Given the adoption curve expected on EVs this market could remain very tight for years. Another constraint is the physical electricity grid which needs a massive upgrade to handle all the new EVs and air-to-water heat pumps. Both of these physical constraints are out of Tesla’s control and if they are not solved quickly the 50% annualized growth target may quickly turn out to be lofty vision with no connection to the real world.
Are financial conditions too tight already?
The US bond yields continued significantly lower yesterday and the 10-year yield is touching 3.57% ahead of the US trading session. This is a sharp reversal from the 4% level reached on 28 September. US equities responded yesterday to the falling yield bouncing back. Positions were stretched across many markets and we are likely witnessing short covering on a big scale. Several leading economists have also been out warning that maybe the Fed is getting to aggressive on its rate policy. If we look at the US financial conditions (see chart below) then financial conditions are back above zero meaning that they are tighter than the average since 1971 relative to the strength of the economy. In theory the current level of financial conditions should begin to have an impact on inflation going forward. The key risk is that inflation has become engrained in the most sticky parts of the services economy and that rising wages could create a wages-inflation feedback loop that will require even tighter financial conditions to get inflation under control. This wage-inflation dynamic is the key topic to watch in 2023.
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