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The Deal: Auto Resurgence Running Out of Gas

Stocks in this article: F

NEW YORK ( The Deal) -- The North American auto industry has engineered an impressive recovery since the dark days of the Great Recession. But its rally-fueled expansion -- the fastest since a post-World War II boom -- could cause issues for investors as automakers chase increased sales.

Auto sales are headed toward an annualized rate of 17 million units, a remarkable turnaround from 10.4 million units sold in 2009. Automakers who cut aggressively during the downturn have responded by adding shifts and expanding plants, spending billions in the process.

Investors have noticed. Shares of Wall Street darling Ford Motor (F), for example, have almost doubled since the beginning of 2010.

There's an adage in the highly cyclical auto business that when manufacturers start adding third shifts, it is time to sell. Though it can be argued that streamlined automakers are better-positioned to handle a speed bump now than they were in years past, increased capacity tends to put pressure on pricing. It might be time to adjust expectations accordingly.

Morgan Stanley analyst Adam Jonas says that while there are a lot of good things happening in the U.S. industry, "there are just too many car companies chasing too few consumers." Jonas stresses he is not trying to call a top to the rally, but says it is time to reconsider "too-optimistic 2014 forecasts" to allow for expected competitive price pressure and other potential issues.

A 1% cut in U.S. pricing translates to a 10% to 15% cut in North American profits, the analyst says.

Industry bulls will counter that much of the growth this time around is smart growth, and can more easily be pulled back should sales slow or prices come under pressure. A significant portion of the additional capacity is in Mexico, where costs are lower and labor is more flexible, and even in the U.S. and Canada manufacturers are taking advantage of reworked labor deals that allow for more liberal use of so-called Tier 2 lower-cost employees.

Bulls also note that automakers have been careful to limit infrastructure investment, instead increasing output at existing facilities, and point to Europe as a potential offset to any slowdown in the U.S.

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