The Rule of 10

For as long as we can remember, the conventional wisdom has been that pre-owned business jet markets are “normalized” when 10% of the installed fleet is for sale. Apparently that’s the magic number where markets aren’t overly beneficial to buyers or sellers. By the Goldilocks principle of aircraft sales, 10% is just right.

Except: It’s completely wrong. And doesn’t even make sense.

Markets are normalized, or in some state of equilibrium, when there are roughly an equal number of buyers and sellers. The Rule of 10 implies that there is always a pool of buyers equal to 10% of the installed fleet and that it’s exclusively the supply side of the equation that dictates market direction.

Let’s take a look at the newer generation large cabin business jet market as a whole. Bear in mind, all of these markets suffered massive declines in value last year (except the Gulfstream G650, which is in the process of doing that now):

rule-of-10

 

Only three models have inventory levels above the 10% threshold, and in those cases, just barely. As a group, there is only 8.8% of the installed fleet for sale. By The Rule of 10, we should be in a supply-constrained market and prices should be stabilizing. In other words, the exact opposite of reality.
The second column, Absorption Rate, tells us what is really happening. This is a measure of how long it will take to work off the existing inventory at the current sales pace. In other words, the ratio between the number of buyers and sellers.
As of today, this segment of the market has over two years of available inventory. There simply isn’t enough demand relative to the supply. In modern times, the absorption rate declined in 2007 to less than a year and then blew up (along with the rest of the world), reaching a high of over 45 months in 2009. Not surprisingly, we saw price increases (Ha!) in large cabin pre-owned aircraft of around 10% in 2007. The 2009 loss in value was on the order of magnitude of 35%-40%.
In fact, doing some casual historical quasi-analysis using data from JetNet and Aircraft Bluebook, we can find a pretty good correlation between absorption rate and yearly price declines. The data suggests that the current 25.8-month absorption rate should correspond to an 11+% average annual drop in value.
And what levels correlate with price stability? Probably something closer to 12 months of available inventory. But bear in mind, this needs to apply market wide- an individual model may show periodic signs of strength but will ultimately be held in check by the macro environment.
This effectively means we are carrying an extra year of inventory over and above what the market demand is right now. Based on the sample of aircraft listed above, all we need to do is have one really good week where we sell about 90 jets and things will be OK again.
See, there’s hope.
P.S. For those Rule of 10’ers out there … the new rule is about 4% … until it changes.
absorption-rate