Note: This will be the first in a series of articles on the airline industry. I hope you’ll follow me as I cover each of the major US airlines and comment on how I view each as an “investment”.
It started when I was a teenager. I naturally thought that I was smarter than I really was, that I knew everything I needed to know about the stock market, and that I had a strong curiosity about all things industry. air Transport. I studied road maps, timetables (okay, I dated myself a bit) and the types of equipment used by airlines on particular routes. I was fascinated by the history of airports with large hubs and the economics, geography and airlines that led them to either great success or ultimately rejection of consolidation.
In the interest of full disclosure, I must say that the first investment I made after my parents opened a brokerage account for me was in an airline; JetBlue Airways (JBLU). I was obsessed with David Neeleman, the founder of JetBlue, and thought that everything he touched would magically turn to gold. Neeleman’s first success in the airline industry came when he co-founded Morris Air and eventually sold it to Southwest Airlines (LUV) in 1993. He left JetBlue in 2008 and has since launched two other airlines . Azul and Breeze Airways.
Back to my investment in JBLU. I had to buy it in the early 2000s, shortly after the company went public. I don’t know the specific trade price for sure, but I believe I bought it somewhere around an adjusted split price of $16. Luckily I sold it no more than a year or two later because I would have taken over 10 years to recover my initial investment and if I held out until today I would be down on my trade .
JBLU would be the first and last time I owned airline stock.
Turn billionaires into millionaires
There’s really nothing to do. Start as a billionaire then buy an airline.
– Richard Branson explains how to become a millionaire.
Warren Buffett has long been critical of airline investing and pointed to Richard Branson’s quote in his 1996 letter to Berkshire Hathaway shareholders (NYSE: BRK.A) (NYSE: BRK.B). Too bad he couldn’t heed his own advice, as his last investment in the industry ended in failure, with Berkshire completely selling all of its airline positions in the spring of 2020, shortly after the start of the pandemic.
So if you’re a billionaire like Buffett or Branson, you’re probably not reading this article right now. You’re more likely to work your way to your first million or two and assess how a thematic ETF like the US Global Jets (JETS) ETF or any airline investment can help you get there.
Buffett invested in the “Big 4” of US airlines at the end of 2016. They have since combined to achieve an average total return of -31.13% over the past 5 years. Yes, the pandemic has been a negative catalyst for the industry during this time, but it still shows how volatile airlines can be.
Now, Buffett’s investment premise wasn’t necessarily wrong in 2016. He suggested that airline consolidation in the late 2000s and early 2010s led to more seats being filled, prices stable and that the airlines were capable of reliable takeovers. He was right for at least a short time until the pandemic completely changed the game.
As we emerge from the pandemic, the aerial game continues to evolve. The reopening should help improve load factors, but fuel prices are rising rapidly. Consolidation is back on the horizon with Spirit Airlines (SAVE) and Frontier Group (ULCC) recently announcing plans to merge and create the fifth largest airline in the United States. Fleet renewal programs have been accelerated and slowed due to the changing pace of the capital spending pandemic. And the pilot retirements that were brought forward at the start of the pandemic are now creating a void that needs to be filled in some airlines as travel demand returns.
The short-term reward of skill in the airline industry is simply survival, not prosperity.
Warren Buffett – 1992 letter to Berkshire shareholders
Airlines should be swapped
All the negative history aside, I don’t want to overlook the fact that individual airlines can sometimes do great business and that using a thematic ETF, like JETS, can have its merits when the opportunity arises. present.
There are 5 things to consider when syncing an airline theme swap using JETS as a proxy.
- The price of oil at the macro level – So let’s eliminate the obvious. Generally, high oil prices are bad for airlines, especially when they rise rapidly and exceed the airlines’ ability to cover. Southwest Airlines is famous for making the most of coverage. At least until the price of oil drops as much, as it did at the end of 2014-2015, and there is actually a cost to removing the hedges.
- Travel request – Another easy one, but we should always analyze what is happening in the world that can positively or negatively impact travel demand. The pandemic is an easy example, but as we hope to return to more normal times, investors should learn some basic signs of how airlines indicate they are structured for growth. This includes increasing fleet size via new orders or postponed retirements, opening or expanding new priority cities/hubs, and establishing a new route without sacrificing the existing network .
- Profitability – When airlines are profitable, they usually engage in share buyback programs and/or pay a dividend. These programs are cut fairly quickly when they are not profitable. Southwest has long been the bell cow for such activity and there is strong speculation that they will be the first to reinstate the dividend if/when the time comes.
- Capital flows – The airline industry is extremely capital intensive. They tend to go through periods of major capital expenditures as they keep their fleets up to date. Some handle this better than others, but investors should always have an eye on the pulse of which airlines might need to spend more on new planes in a given period. Delta Air Lines (DAL) handled this process well after the merger with Northwest, as they opted to lease older Boeing 717s from Southwest (after the AirTran merger) to replace the DC-9s they inherited from Northwest and AirTran. purchase used MD-80s to supplement their fleet needs.
- Consolidation – Profitability really took off for airlines around 2014 after the last round of mega-mergers and with the fall in oil prices. Consolidation periods can be good for the investor assuming you are betting on the right horse. If the merger of Spirit and Frontier is allowed, we could enter a period of further consolidation.
There is no denying that the airline industry is a complex and very complicated business. It always seems like the needle is moving and it’s very hard to judge when the music might stop. As such, airlines make better trades than long-term investments.
JETS in a holding pattern
On the positive side of things, JETS has actually performed well recently given the negative pressure in the market. The JETS is up just over 3% in the past month, while the S&P 500 is down over -2% in the past month.
This seems to indicate that the reopening story weighs more heavily on the sector than the rise in the price of oil. Also keep in mind that most of JETS’ gains have come in the past two weeks after the announcement of the merger of Spirit and Frontier. I would keep an eye on the federal merger review process and it could have a wider impact on JETS in 2022 if the current administration doesn’t have the appetite.
Going back to the reopening story, there is no doubt that travel demand is expected to be significantly higher in the remainder of 2022 and airlines are expected to see positive earnings growth. JETS was trading near $25 before the Omicron variant and nearly $28 before the downturn associated with the Delta variant. Excluding all other factors, this would imply a 10-20% price hike on the back of positive travel demand sentiment.
However, we know that inflationary pressure, the potential for conflict in Eastern Europe and the price of oil could play against the JETS in the short term. I didn’t even take into account the 0.60% expense ratio for the ETF (relatively high) or the weighting of the individual components. I’ll dig deeper into this as I begin to analyze each airline individually in this series, but having the 4 major airlines equally weighted at around 10% each for a total of 40% of the ETF has his limits.
The worst, at least in terms of the cycle of this pandemic era, should hopefully be behind the industry. All of the Big 4 beat estimates in this latest round of results and analysts expect revenue to be at or above 2019 levels. here, but I think the macroeconomic pressures across the broader market are too great right now and I have a holding rating on JETS.
The opportunity should present itself to trade JETS in 2022 and I will be looking more closely at the Q1 earnings release later this spring to time a trade. This timing should provide a more complete picture of oil prices, inflation, rising interest rates, geopolitical tensions and an overall market heading for safety.