Overall, it has been a successful year for the airline industry. This can be witnessed from the fact that the NYSE ARCA Airline index generated a year-to-date (YTD) return of 43.74% (as of Dec 26, 2014), compared with the S&P 500’s return of 12.63%. Higher demand for travel on the back of an improving labor market, consolidation and falling oil prices have helped carriers perform well.
Currently, the airline sector is going through a strong patch with stocks having rebounded strongly from the Ebola-induced lean period (September to mid-October) on the back of healthy earnings reports and weak oil prices.
Ebola Scare
The emergence of the dreaded Ebola virus presented the airline industry with the biggest challenge of the year. The impact of Ebola was most severe in West African nations such as Sierra Leone and Guinea. However, the U.S. was also impacted when Thomas Eric Duncan was diagnosed with Ebola in September. Duncan, who had flown to Dallas from Liberia, died of the disease on Oct 8. Both nurses who took care of Duncan at the Dallas hospital tested positive for Ebola.
The detection of Ebola in the U.S. caused shares of major U.S. based carriers like Delta Air Lines, Inc. (DAL), United Continental Holdings, Inc. (UAL) and American Airlines Group Inc. (AAL) to plummet. The downward journey continued well into mid-October when majority of the carriers came out with solid third quarter 2014 numbers driven by falling oil prices.
Lower Oil Prices Boost Airline Stocks
Lower jet fuel prices have been a boon for the airline industry given the inversely proportional relation between crude prices and the value of aviation stocks. In fact, crude prices have been declining for the last few months due to an over-supplied oil market especially in the face of lackluster global demand. Moreover, the international cartel of oil producers’ – Organization of the Petroleum Exporting Countries – decision against an oil production cut on Thanksgiving Day added fuel to the concern.
The concern of oversupply has dragged the oil price by almost 50% since June and is currently hovering in the band of $55-$60 a barrel. This has benefited airline stocks immensely as the cut in oil prices has reduced their operating expenses significantly, thereby aiding the bottom line.
Senator Charles Schumer has, however, publicly questioned the logic behind air tickets being expensive despite plummeting crude prices and has asked for a probe into this apparent abnormality. Although it is a fact that most carriers hedge at least some of their fuel costs, most should still continue to benefit immensely from falling oil prices.
Carriers Investing in Improving Infrastructure
Buoyed by their solid financial health, many carriers have announced their intentions to invest heavily for upgrading overall facilities associated with customer satisfaction. This will likely result in greater demand and eventually lead to higher profits.
For example, premier passenger carrier American Airlines Group, formed through the merger of American Airlines and U.S. Airways Group in Dec 2013, announced that it will invest more than $2 billion to enhance customer satisfaction and keep up with its competitors. The decision to upgrade planes and hubs to improve the flying experience marked the one year point of completion of its merger.
In the same vein, Delta Air Lines has announced that it will introduce a new five-tiered seating plan from Mar 1, 2015. During the year, carriers like United Continental and JetBlue Airways (JBLU) have added new routes to capitalize on the increased demand for air travel. Moreover, carriers like Southwest Airlines (LUV) have benefited from the expiration of the Wright Amendment, which governed traffic at Dallas Love Field (Southwest‘s home base).
Woes Continue at Lufthansa
2014 has been a troubled year for Germany’s Deutsche Lufthansa Aktiengesellschaft (DLAKY) with shares representing a YTD return of -20.99%. The carrier witnessed multiple strikes by pilots following the failure of talks with management over early retirement benefits. The troubled airline had to cut its forecast for 2015 operating profits twice this year.
On the other hand, the year has been a successful run for another European company, Ryanair Holdings (RYAAY), the holding company for Ryanair, a scheduled-passenger low-cost airline. The company has delivered a YTD return of 46.2% and has hiked its profit forecast for fiscal 2015 quite a few times this year, bolstered by its customer friendly initiatives.
Top 3 Performers
We hereby present 3 top airline stocks which performed impressively through 2014 generating solid YTD returns. Moreover, these stocks carry a favorable Zacks Rank and have an impressive long-term growth rate.
Southwest Airlines Co. performed impressively in the third quarter of 2014 beating the Zacks Consensus Estimate both in terms of revenues and earnings.
Strategies including fleet restructuring, introduction of international services, increased ancillary product offerings, capacity management and slot wins are expected to boost the Dallas, Texas based company’s revenues and reduce expenses, going forward.
Southwest holds a Zacks Rank #1 (Strong Buy) and has a long-term expected earnings growth of 32.3%. The stock gained a whopping 122.45% YTD.
JetBlue Airways Corp's third quarter earnings improved on a year-over-year basis, although the number lagged our expectation.
We believe JetBlue will continue to benefit from increasing demand, network expansion, fleet re-designing, capital expenditure management and lower fuel prices. Additionally, emphasis on expansion in major growth regions along with the addition of various Caribbean and Latin American markets should spur growth at this Long Island City-based carrier.
JetBlue holds a Zacks Rank #2 (Buy) and has expected earnings growth of 31.04%. The stock gained a whopping 83.61% YTD.
Delta Air Lines reported better-than-expected earnings in the third quarter of 2014. We believe Delta is positioned to perform well going forward, driven by a strong domestic market, capacity discipline, route expansion, cost control measures and customer-focused initiatives.
The Atlanta, GA-based carrier holds a Zacks Rank #1 (Strong Buy) and has expected earnings growth of 17.66%. The stock gained a whopping 76.16% YTD.
Outlook for 2015
The forecast by the research firm International Air Transport Association suggests that the airline industry will continue to see good times in 2015. IATA has projected that global profit for the industry will increase to $25 billion in 2015 from the estimated 2014 figure of $19.9 billion (higher than the $18 billion projection made in June).
The research firm has also predicted that airline companies will earn $7.08 per passenger in 2015, up 17.6% year over year. The firm predicts that oil prices will continue to fall in 2015 with the average price in the year around $85 per barrel. Moreover, it will be interesting to see how airline stocks benefit from President Obama’s announcement to ease travel restrictions with Cuba.
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