Are Airline Stocks Useless Now?

Following a volatile 2015, airline stocks have really underperformed the market in 2016 with many big-name carriers down considerably year to date. Over the last two years, I have recommended buying eight airlines stock, seven out of which have returned double-digit or triple-digit gains, with Spirit Airlines (SAVE) being the only underperformer.

However, over the last few months, I have recommended selling all seven of those airline stocks, citing the price competition as the major headwind. Currently, I am only bullish on Spirit Airlines as I believe all the other carriers will be under pressure and range bound for the foreseeable future.

PRASM is the primary metric

Many airlines went bankrupt in the 90s when they started competing on price amid cheap crude environment.
Since then, investors have been really cautious about airline stocks and have responded to the news of price warns by punishing the entire sector. PRASM, or unit revenue, has become the primary metric by which the Market judges the progress on any carrier. Unit revenue is the primary indicator of a price war, and since the 90s, investors have been very skeptical of a price war.

With crude prices having fallen to nearly $25 per barrel earlier this year, airlines were passing on the gains to customers by slashing ticket prices. Reducing air fares had a huge negative impact on the unit revenue, which in turn pulled the entire aviation sector lower.

With oil prices now starting to move higher, airlines will probably struggle to raise ticket prices. Moreover, the tough year-over-year earnings comparison will also take a toll of the stock price. Fundamentally, airlines may look cheap with modest P/E and P/S ratios. However, increasing oil prices will have a negative impact on airlines’ earnings, which in turn will increase their valuation. If crude oil rallies to above $70 in the next few months, airlines’ earnings will take a huge hit and their valuations may not appear as cheap then.

Hence, I think the best days of the airlines sector is behind it. Investing in the sector now doesn’t make much sense and the only stock I’m bullish on is Spirit Airlines primarily because the rising crude prices will give the carrier its competitive advantage back.

As for the other airlines, I have already recommended investors to book profit by selling those stocks. I still think investors should wait on the sidelines and should only buy Spirit Airlines right now.
Published on May 31, 2016
By Ayush Singh

Copyrighted 2020. Content published with author's permission.

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