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Go Long on General Motors for High-Octane Profits

There has been a lot of talk about the return housing in 2013, and with good reason. But the auto industry also is resurgent — good news not just for major car companies, but for the nascent recovery.

A rise in big-ticket purchases like cars signals strong consumer spending, and auto manufacturing and related jobs remain important to the labor market. Both those metrics are crucial to getting the U.S. back on a path to growth.

And judging by the numbers, there’s reason to be optimistic. U.S. light-vehicle sales hit 14.5 million in 2012 — the highest level since the Great Recession. Continued growth is expected this year, with research and consulting firm Polk expecting auto sales to hit 15.3 million vehicles in 2013.

Team up improving fundamentals for automaker stocks with brisk overall sales and an improving economy, and you have a recipe for big success in this sector.

So which auto stock should investors be kicking the tires on if they want to benefit from this trend?

I personally like General Motors (NYSE:GM) right now. Yes, it still has some hangover from the “Government Motors” bailout during the financial crisis. But a post-bankruptcy GM is firing on all cylinders again, and there’s reason to expect momentum to continue.

Here are the highlights:

Government Getting Out: For starters, those worried about government meddling should know the Treasury Department sold a roughly $490 million stake in the company in February and continues to wind down its position. That can only be good for GM stock as it gets back to normal operation without government oversight. Granted, Uncle Sam still owns about 277 million shares for a roughly 20% stake — and with share prices at less than half of what the government needs to break even on the bailout, there’s no rush to wind things down tomorrow. But the government clearly is heading toward the exit, even if it’s slowly.

Big Profits: Although revenue isn’t back to mid-2000s peaks, GM did post a record profit just two years after declaring bankruptcy. Furthermore, FY2013 is tracking a 20% increase in earnings per share on top of those numbers — and another smaller uptick into FY 2014.

Big Margins: I recently wrote in great detail about the return of truck sales thanks to a housing recovery, and how that’s good for margins. Cheaper compacts can squeak out dealer profit of less than $300 a car, but bigger vehicles command bigger paydays. Naturally, the biggest winners here will be Ford (NYSE:F) and GM, since the F-150 and Silverado rank No. 1 and 2 among all vehicles domestically. Furthermore, a resurgent U.S. economy could boost luxury vehicle sales at Cadillac, which is the No. 5 luxury brand in the country.

Nowhere But Up in Europe: Automakers have been brutalized by the European recession as vehicle sales there have plummeted. Consider that new car registrations just fell to the lowest level in the history (at least, back to 1990 when record-keeping began). But the good news is that automakers have adjusted expectations and manufacturing in Europe as a result — and GM’s improving profits come even as it operates at a loss in Europe. If the company can still crank out profits in this environment, imagine where they will be when Europe turns around.

Valuation: Fiscal 2014 earnings per share are forecast to be $3.71. At around $28 a share, that’s a price-to-earnings ratio of around 7.5. Honda (NYSE:HMC) and Toyota (NYSE:TM) both have a forward P/E of around 13 by comparison.

Dividend Hopes: Obviously, General Motors hasn’t been able to dish out the cash as it is paying back Uncle Sam. But keep in mind that in January, GM paid about 60 cents a share on a quarterly dividend for its preferred stock, and it could start delivering that cash to common shareholders in the future once the bailout is wholly wound down and if profits continue to increase. A mere 20% dividend payout ratio based on FY2014 earnings would be 87 cents a share for a 3% yield.

Sentiment: Last but not least, sentiment remains pretty negative on GM. Long-term, that’s driven by the bankruptcy and the flop after its late 2010 IPO. Shares peaked at $39 after a few weeks, then crashed as low as $20. And in the short-term, continued trouble in Europe has resulted in the company posting a small loss in 2013 vs. nice gains for major market indices. While lately it has paid to buy high and sell higher, GM might be one of those stocks that presents a buying opportunity after sentiment bottoms and investors can get in on the ground floor.

There are plenty of other issues and unknowns, including a still-relatively new CEO that is “cautiously optimistic” and continued risks to consumer sentiment in Europe, China and even at home in the U.S. We’ll see some of those concerns on display at the end of April when the automaker posts its Q1 results.

But there are a lot of reasons to like the auto sector generally and General Motors specifically right now. You might not want to wait until after the earnings report to come around to GM, since a big pop could be in store in just a few weeks.

Jeff Reeves is the editor of InvestorPlace.com and the author of “The Frugal Investor’s Guide to Finding Great Stocks.” Write him at editor@investorplace.com or follow him on Twitter via @JeffReevesIP. As of this writing he did not own a position in any of the stocks named here.

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