Used Cars May Not be Such a Good Deal After All

Recently I mentioned, almost in passing, a SmartMoney item that alleged  that relatively young used cars were no longer the bargain they once were and that in some cases a new car is actually cheaper. This inspired considerable commentary, much of it of Toyotadealership Cropthe thoughtful and fact-based variety.

The relative prices of new and barely used cars is a bit more significant an issue than it may at first appear. Conventional wisdom, which until recently I shared with some certainty, is that new cars depreciate violently the moment they become used ones. The consensus seems to be that they lose something like 30% of their new value.

That sort of instant depreciation underlies the argument that used is, in general, a better deal because people place an irrational premium on the new status of cars and attach an irrational stigma to used ones. If the instant loss of value turns out to be untrue, if it turns out that young used cars are only a little cheaper, then perhaps the larger argument that used cars are the smart way to go stops making so much sense.

In keeping with the thoughtful and fact based spirit, I spent a little time this morning on researching prices for new and used cars. This time of year is an opportune time to investigate this issue because you can get prices for both new and used 2010 model year vehicles. I picked five models, more or less arbitrarily, and gathered the used prices (trade-in and retail) and the new ones (list and invoice.)

Car Used Trade-in Used Retail New Invoice New List
Toyota Camry LE Auto $ 15,303 $ 18,840 $ 19,820 $ 21,900
BMW 328i AWD $ 30,868 $ 34,409 $ 32,340 $ 35,150
Ford Explorer Ltd 4WD $ 27,473 $ 31,921 $ 35,886 $ 38,600
Chevy Cobalt LS 4dr $ 10,111 $ 12,988 $ 15,043 $ 15,670
Jeep Liberty Sport AWD $ 17,458 $ 21,488 $ 24,130 $ 24,865

As a first cut, I found that if you average the two used prices, that is, average what you are likely to be paid by a dealer for the car if you sell it with what you are likely to pay a dealer if you buy it, and compare that to the average of list and invoice, the used cars are about 17% less expensive.

17% ain’t nothing, but it is not that big either. After all, the used cars are somewhat used, so the rational level of depreciation is not zero. They have miles on them and their warrantee is a year shorter.

Moreover, from the point of view of a car buyer, the relevant used price is retail cost, not the midpoint of trade-in and retail. That midpoint is perhaps a better measure of the abstract value of the car, but it is less useful for answering the which is a better buy question.

And using the average of list and invoice may be a bit too pessimistic on what a new car costs. It has been a long while since I bought one, but I get the impression that invoice is not an unrealistic goal.

The average difference between used retail and new invoice price is only 7%. Indeed, for the BMW the used retail is higher. And 7% is not much. It likely could be explained entirely by actual and tangible depreciation on a year-old car, not some crazy preference for new over old.

At the risk of stating the obvious, my sample size is tiny. I am hoping that somebody with access to a large database, e.g. the folks at Edmonds, will do a proper study on a much larger scale. But these numbers are consistent with what SmartMoney and several of my commenters said. Used cars are not the bargain they once were.

Why might this be? Commenter Oldsmoboi, of Cheers and Gears, ascribed most of it to the increased quality and longevity of today’s cars. Decades ago vehicles did not last as long as they do today, so depreciation was naturally faster. That situation greatly improved, but there was a long delay between the time that cars stopped falling apart so quickly and when people stopped pricing them as if they still did. Now, at least for imports, it seems as if everybody has caught on. Domestic cars are taking a little longer, but according to Oldsmoboi that window is closing fast too.

I would also add to this the observation that in the old days cars became dated in terms of style and features much more quickly. It used to be that the model year change-over was easy to notice, that a 1978 car looked different from a 1977. Today noticeable styling updates occur only every few years, so for most cars, a 2010 and a 2011 are virtually identical.

And outside hybrids and other exotics, the technology and feature set of cars is now largely mature and settled. The 2011 model may have better iPhone integration, but the 2010 and 2011 models basically do the same things.

Which all goes to make the point, as if it needed making, that a young used car is only slightly less desirable than a new one. Many of us figured that out a while ago. The news is that it seems that now everybody else has worked it out too.

Then again, it is possible that this recent development is a temporary one. Oldsmoboi makes the point that new car sales for the past two years have been so depressed that the supply of one and two year old used cars is very constricted. It could be that scarcity has driven their prices up, something that will dissipate when (and if) new car sales rebound. Similarly, it may be that new car prices are particularly low just now with so many manufacturers and dealers desperate to make a sale.

Much further research and analysis is needed here. But it is clear that for the moment the conventional wisdom on car purchases is in limbo. A new car just might be a smart move after all. Or maybe not. Your mileage may vary.

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