Airlines: Where To Invest Now

With the world opening up again post-pandemic, airline stocks are looking like a good investment. However, with rising fuel costs and labour issues, not all airline stocks are created equal.

Some sources suggest that low-cost carriers like Southwest Airlines and Spirit Airlines are good options. Southwest has a strong history of hedging oil prices, and its small-but-shrewd team of fuel traders managed to save the firm $1.2 billion this year. Southwest has also expanded its fleet, adding 100 additional 737 MAX jets and options for 155 more through 2029. Spirit Airlines, meanwhile, was the only traditional airline stock valued at $2 billion or more that posted a year-to-date gain in 2022.

Other sources suggest looking at airlines outside the US, such as China Eastern Airlines or Copa Holdings, a Panama-based airline that has seen net income surge sixfold on strong air travel demand.

It's also worth considering airlines that lease aircraft to carriers, such as Air Lease, which has been able to rent out its fleet consistently and at premium prices.

The impact of the COVID-19 pandemic on airlines

The COVID-19 pandemic had a significant impact on the airline industry, causing a sharp decline in air travel demand and massive reductions in passenger numbers. This resulted in flights being cancelled or planes flying empty, which led to a drastic drop in revenues for airlines. The pandemic also disrupted global supply chains and caused an increase in fuel prices, further affecting the industry.

In the initial months of the pandemic, there was a notable decrease in the number of flights compared to the previous year. By April 2020, over 80% of flight movements were restricted across all regions. The pandemic also caused a surge in cargo flights, particularly for the transportation of medical equipment and other essential supplies. However, the increase in cargo flights could not offset the decline in passenger flights, and many airlines were forced to lay off employees or declare bankruptcy.

The recovery of the airline industry has been gradual, with travel demand returning in 2022 and a summer of congested airports. However, the industry continues to face challenges, including pilot shortages and rising fuel prices due to the conflict in Ukraine. Despite these headwinds, the major airlines appear to be on a path to recovery, and the shift to remote work has created a year-round demand for leisure travel, helping to stabilise the industry.

The impact of the pandemic on the airline industry has been far-reaching, and it may take several years for the industry to fully recover to pre-COVID-19 levels. The International Air Transport Association predicted a full recovery by 2024, although this was before the Russian invasion of Ukraine.

The best airline stocks to buy now

The airline industry has faced a challenging few years, with the COVID-19 pandemic causing revenues and share prices to plummet. However, as of 2024, the industry has recovered, and airline stocks are once again an attractive investment opportunity.

Delta Air Lines (DAL)

Delta Air Lines is the largest domestic carrier in the US and a leader in terms of valuation, with a forward price-to-earnings (P/E) ratio of 5.9. The company has impressed investors with its 2024 outlook, and analysts have rated the stock as a "buy" or "strong buy". Delta has a stable balance sheet and strong labour relations, making it a good choice for recovery.

Ryanair Holdings (RYAAY)

Ryanair is Europe's dominant low-cost carrier, and its stock has seen solid gains over the past year, with shares more than doubling over the past decade. The company has been gaining market share thanks to its incredibly cheap prices, and analysts have given the stock a "buy" or "overweight" rating.

Southwest Airlines (LUV)

Southwest Airlines combines a robust balance sheet with a great low-cost business model. The company exceeded analyst estimates for its most recent quarter, and President and CEO Bob Jordan has predicted $1.5 billion in incremental year-over-year pretax profits. While analyst opinions are mixed, the near-term outlook for the company is positive.

Copa Holdings (CPA)

Copa Holdings is a Latin American carrier based in Panama, offering flights to around 80 destinations in over 30 countries. The airline has seen a double-digit increase in demand in the first quarter of 2024 and posted revenue of $12.5 billion, up 9.7% year-over-year. All 13 analysts covering the stock give it a "buy" or "overweight" rating.

United Airlines Holdings (UAL)

United Airlines is the largest airline by available seat miles, transporting 140 million customers to over 300 destinations worldwide. The company has seen strong revenue growth and has a stable and progressive management team. It is also an attractive investment from a valuation perspective, trading for less than four times future earnings.

Wheels Up Experience (UP)

Wheels Up Experience is a private aviation services company offering charter flights, fleet management, and sales. While the company is not yet profitable, it has impressive revenue growth forecasts and is an interesting alternative for investors seeking a more aggressive play.

SkyWest (SKYW)

SkyWest is a holding company that operates nearly 500 aircraft to 237 destinations in North America. With a market cap of $2.9 billion, it is a smaller name in the industry, but its small size could offer more room for growth. The company has seen a 10% revenue boost year-over-year and has exceeded analyst estimates, making it an attractive bargain buy.

The pros and cons of investing in airlines

Pros

• Increased competition: Airline deregulation has encouraged competition among airlines, leading to lower fares and improved services as companies strive to attract customers.
• Innovation and efficiency: Deregulation promotes innovation as airlines have the freedom to experiment with new business models, services, and technologies, driving efficiency gains and cost reductions.
• Expanded route networks: Airlines can connect more cities and regions, improving accessibility and stimulating economic growth.
• Lower government intervention: Deregulation reduces the need for government intervention and allows airlines to make business decisions based on market forces.
• Job creation and economic impact: Deregulation can lead to increased job opportunities and economic benefits by facilitating tourism, trade, and business activities.
• International competitiveness: Deregulation enhances the competitiveness of domestic airlines in the global market, attracting international travellers and expanding their market share.
• More options for small communities: Deregulation can benefit smaller communities by increasing air service options as airlines are more likely to serve smaller airports.
• Fare flexibility: Deregulation enables airlines to offer a wider range of fare options, allowing consumers to choose the level of service and price that suits their needs.
• Incentive for investment: Deregulation encourages investment in the airline industry by reducing barriers to entry and increasing potential profitability.
• Consumer empowerment: With increased competition, airlines are motivated to improve their services and customer satisfaction to attract and retain passengers.

Cons

• Decreased safety standards: Deregulation may lead to a decline in safety standards as airlines prioritise cost-cutting measures over safety regulations.
• Reduced service to smaller markets: Deregulation can result in reduced air service to smaller markets or remote areas as airlines focus on high-demand routes.
• Potential for monopolistic practices: Deregulation can create an environment where dominant airlines gain excessive market power, leading to higher fares, limited choices, and reduced competition.
• Unstable fares: Deregulation can result in volatile and unpredictable pricing, making it challenging for consumers to plan and budget for their travel.
• Employee insecurity: Increased competition may lead to cost-cutting measures, including layoffs or reduced employee benefits, impacting the livelihoods of workers.
• Congestion and delays: More airlines operating in a deregulated environment can lead to congestion and delays at airports as they strive to maximise profits and increase flight frequencies.
• Environmental impact: Deregulation can contribute to an increase in air travel, leading to a higher carbon footprint and environmental impact.
• Less stability in the industry: Deregulation can introduce instability in the industry, with airlines struggling to sustain profitability, leading to bankruptcies or mergers that disrupt travel plans.
• Reduced accessibility for lower-income individuals: Competition may not be enough to offset the overall cost of air travel, making it less affordable for those with limited financial means.
• Loss of national carriers: Deregulation can lead to the decline or loss of national carriers as they face intense competition from new entrants, resulting in reduced national pride.
• Susceptible to external factors: The airline industry is susceptible to economic downturns, terrorism, inclement weather, and fluctuating fuel prices, which can affect demand for air travel.

How airlines are recovering from the pandemic

The COVID-19 pandemic had a devastating impact on the airline industry, with revenues in 2020 totalling just 40% of the previous year's. The recovery has been slow, and the International Air Transport Association predicted that a full recovery might not happen until 2024. However, there are signs that airlines are recovering.

Leisure Trips Fuel the Recovery

Business travel is expected to take longer to recover, with predictions that it will only reach 80% of pre-pandemic levels by 2024. In contrast, leisure trips are rebounding, and this trend is expected to continue. This shift has financial implications for airlines, as business travellers tend to be more profitable. To adapt, airlines may need to change their pricing logic and network strategies, including reducing the premium charged for point-to-point nonstop flights.

Ticket Price Increases

Airlines have amassed huge amounts of debt during the pandemic, and this will likely lead to ticket price increases of around 3%. There may also be a supply-demand gap when demand for air travel returns, as it will take time for airlines to restore capacity.

Disparity in Performance Among Airlines

Some airlines have used the pandemic as an opportunity to restructure and become more efficient, and these carriers are now pulling ahead. Airlines that have accessed state aid may have reduced incentives to make necessary changes and could struggle in the long term.

Air Freight Undersupply

During the pandemic, air cargo was a lifeline for the industry, but there is now an undersupply of air freight services. This presents carriers with an opportunity to boost their cargo services, particularly through the use of 'preighters' (passenger planes used for cargo).

Digital Transformation

Digital transformation will continue to play a significant role in the recovery, with mobile apps being used to store travellers' vaccine certificates and COVID-19 test results. Airlines that invest in IT and digitalisation may be better placed to recover, as they can improve the customer experience and support services.

Labour Shortages

Airlines are also facing labour shortages, particularly when it comes to pilots. This has contributed to flight delays and cancellations and is another challenge that airlines will need to navigate as they recover from the pandemic.

The risks of investing in airline stocks

Investing in airline stocks comes with a set of risks that you should be aware of. Here are some of the key risks to consider:

Volatility and Cyclicality

Airline stocks are known for their volatility and sensitivity to economic cycles. When the economy is doing well, demand for air travel tends to increase, driving up airline stock prices. However, during economic downturns, airlines can be hit hard as people cut back on discretionary spending, such as travel. This cyclical nature of the industry makes airline stocks riskier than some other investments.

Fuel Price Volatility

Fuel prices, particularly jet fuel, can be extremely volatile and are heavily influenced by global events and geopolitical tensions. A spike in oil prices due to conflicts, such as the Russia-Ukraine war, can significantly impact an airline's profitability as fuel accounts for a substantial portion of their total costs. This makes it difficult for airlines to predict and manage their expenses effectively.

Operational Challenges

Airlines are highly dependent on efficient operations and smooth logistics. Any disruptions, such as labour issues, pilot shortages, or unexpected events like pandemics, can lead to chronic delays and cancellations. These issues not only frustrate travellers but also impact the financial performance of airlines, potentially driving away investors.

Competition and Consolidation

The airline industry has undergone consolidation, with a small group of competitors dominating the market. This can lead to increased competition and pricing pressures, making it challenging for smaller players to survive. While industry consolidation can bring efficiencies, it also reduces the number of investment options available.

Regulatory and Government Influence

Airlines are heavily regulated and dependent on government policies and support. Changes in regulations or a lack of government assistance during challenging times can impact their operations and financial health. Additionally, increased regulatory oversight can affect an airline's ability to operate freely and make strategic decisions.

Health and Safety Concerns

Health and safety concerns, such as pandemics or other unforeseen events, can significantly impact air travel demand and disrupt the industry. The COVID-19 pandemic is a prime example of how a global health crisis can bring the airline industry to its knees, requiring government intervention to prevent widespread bankruptcies.

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