We are at the tail end of the fourth-quarter earnings season and auto stocks seem to be racing ahead of estimates. As of Feb 10, 2016, around 80% of the auto stocks had reported earnings with an average beat ratio of 62.5%. Moreover, the growth rate of earnings for these companies was 9.1%.
 
Once all the auto stocks report their results, the earnings growth rate for the sector is expected at around 8.2% for the quarter compared with a negative growth rate of 6.5% expected from all the S&P 500 companies. Moreover, the auto sector is expected to rank third among the 16 Zacks sectors in terms of year-over-year increase in average earnings for the fourth quarter.
 
It is worth noting that the automobile space recorded an impressive 30.7% year-over-year earnings growth in the third quarter of 2015 – the highest among the 16 Zacks sectors.
 
Growth Drivers
 
The expected earnings growth for the fourth quarter will no doubt be fueled by strong vehicle sales in the key markets. U.S. light-vehicle sales increased 5.7% year over year to an all-time record of 17.47 million units in 2015. This is the sixth consecutive year of rising sales. Auto sales in China also increased 4.7% year over year to a record 24,597,600 units in 2015. Robust sales all year round must have had a positive influence on fourth-quarter results.
 
Further, the recovery in the European automobile market continued last year with a 9.3% year-over-year increase recorded in passenger car sales, according to the European Automobile Manufacturer’s Association.
 
The sales growth is expected to continue this year, with projections of a 2.7% rise in global vehicle sales to nearly 89.8 million vehicles by IHS Automotive. Low fuel prices, attractive financing options and impressive vehicle launches are giving a solid boost to vehicle sales.
 
Concerns
 
Although earnings of the auto companies are improving significantly, revenues are going down. Total revenues of the companies that had reported their financial results by Feb 10 declined 1.3% year over year in the fourth quarter of 2015. Moreover, this rate of decline is expected to be maintained till the end of the earnings season. Adverse foreign currency fluctuations and heavy discounts have had a significant adverse effect on revenues of many companies.
 
Meanwhile, a slowdown in sales growth in China is a concern for automakers. By the end of 2015, the growth rate of sales fell 2.2 percentage points from 2014 end. Even in Europe, sales growth is expected to be slower this year. Per the European Automobile Manufacturer’s Association, passenger car sales are expected to increase only 2% in 2016 compared with 9.3% growth recorded in 2015. Moreover, the massive volume of recalls due to the defective Takata airbag inflators and the Volkswagen AG (VLKAY) emission scandal will significantly inflate automakers’ expenses this year.                                                         

The Way to Pick Right Stocks
 
Given the strong earnings outlook for the auto sector, it would be a good idea to look at some auto stocks while the fourth-quarter earnings season is still underway.
 
However, a large number of participants in the auto industry makes it difficult to shortlist stocks that have the potential to beat on earnings. This is where the Zacks proprietary methodology comes in handy. It narrows down the list by selecting stocks that have the combination of a favorable Zacks Rank – Zacks Rank #1 (Strong Buy), 2 (Buy) or 3 (Hold) – and a positive Earnings ESP.
 
Earnings ESP shows the percentage difference between the Most Accurate estimate and the Zacks Consensus Estimate. It helps in picking stocks that have high chances of posting a positive earnings surprise in their next earnings announcement.
 
Our research shows that for stocks with this combination, the chance of a positive earnings surprise is as high as 70%. Here, we have selected six stocks from the automobile sector that have the right combination of elements to report an earnings beat this season.
 
Visteon Corporation (VC - Snapshot Report) has a Zacks Rank #1 and an Earnings ESP of +26.37%. The Zacks Consensus Estimate for the company’s fourth-quarter earnings is 91 cents per share currently. The company delivered positive earnings surprises in each of the trailing four quarters, with an average beat of a whopping 224.39%.
 
Visteon is an automotive supplier engaged in the design, engineering and manufacturing of innovative climate, electronic, interior and lighting products for vehicle manufacturers. The company is expected to report fourth-quarter results on Feb 25.
 
Superior Industries International Inc. (SUP - Analyst Report) has an Earnings ESP of +11.11% and a Zacks Rank #1. The Zacks Consensus Estimate for the company’s fourth-quarter earnings is 36 cents per share, which reflects an expected year-over-year gain of 69.84%.

Superior Industries has a history of outperforming earnings estimates. The company delivered positive earnings surprises in three of the trailing four quarters, with an average beat of 32.44%.

Superior Industries is one of the world’s largest designers and manufacturers of cast aluminum road wheels for the automotive industry. It also designs a variety of products for the automotive aftermarket, including custom road wheels and accessories. The company will report fourth-quarter earnings on Mar 7.
 
Cooper Tire & Rubber Co. (CTB) has a Zacks Rank #1 and an Earnings ESP of +10.96%. The Zacks Consensus Estimate for the company’s fourth-quarter earnings is 73 cents per share, which translates into a year-over-year growth of an impressive 62.86%.
 
Cooper Tire delivered positive earnings surprises in two of the trailing four quarters with an average beat of 8.76%. The company will report fourth-quarter earnings on Feb 23.
 
Ohio-based Cooper Tire manufactures and markets tires and related products. It is the 12th largest tire company globally on the basis of sales and the 4th largest tire manufacturer in North America.
 
Unique Fabricating, Inc. (UFAB - Snapshot Report) has an Earnings ESP of +14.29% and a Zacks Rank #3. The Zacks Consensus Estimate for the company’s fourth-quarter earnings is 14 cents per share.
 
Michigan-based Unique Fabricating, Inc. is a supplier of components in the automotive and industrial appliance market. The company will come up with fourth-quarter earnings on Feb 16.
 
Cooper-Standard Holdings Inc. (CPS - Snapshot Report) has an Earnings ESP of +1.77% and a Zacks Rank #3. The Zacks Consensus Estimate for the company’s fourth-quarter earnings is $1.70 per share. The company delivered positive earnings surprises in each of the trailing four quarters, with an average beat of 61.89%.
 
Michigan-based Cooper-Standard operates as a supplier of systems and components for the automotive industry. Its products include sealing and trim, fuel and brake delivery, fluid transfer, thermal and emissions and anti-vibration systems. The company will come up with fourth-quarter earnings on Feb 22.
 
Magna International Inc. (MGA - Analyst Report) has a Zacks Rank #3 and an Earnings ESP of +0.89%. The Zacks Consensus Estimate for the company’s fourth-quarter earnings is $1.12 per share. Magna International delivered positive earnings surprises in each of the trailing four quarters, with an average beat of 7.78%.
 
Based in Aurora, Canada, Magna International is a leading manufacturer and supplier of automotive systems, assemblies, modules and components. It also engineers and assembles complete vehicles, primarily for sale to car and light truck manufacturers. The product portfolio includes automotive interior and exterior systems, seating systems, body and chassis systems, electronic systems, powertrain systems, and roof systems. The company will report fourth-quarter earnings on Feb 26.
 
Bottom Line
 
Investing in auto stocks that have the potential to beat earnings estimates should yield good returns in the near term. Above-expectation earnings increase investors’ confidence in a stock, which leads to immediate price appreciation.
 
The long-term outlook for the auto sector is positive, so investors looking for long-term prospects can take advantage of this buying opportunity.