A flurry of good news lifted airline stocks higher recently, reversing a drop in altitude that’s weighed on the industry so far in 2016. Fueled primarily by a bullish report from Deutsche Bank, American Airlines, Delta Air Lines and United Continental collectively advanced 6.5 percent on July 12 alone. The German bank’s all-clear signal halted a six-month slide on overcapacity, Brexit uncertainty and heightened fears of global terrorism.
Leading the group was American Airlines, which announced that it would renew its credit card deals with both Citigroup and Barclays, a move that’s estimated to add $1.55 billion to the carrier’s pretax income over the next three years—$200 million this year, $550 million in 2017 and $800 million in 2018, according to Bloomberg.
The agreement will allow Citi to offer its credit cards to new customers on American Airlines’ website and mobile apps, through direct mail and in Admirals Club lounges, while Barclaycard will be permitted to reach customers in airports and during American flights.
Investors also rewarded Delta for better-than-expected profits, which rose 4.1 percent to $1.55 billion in the second quarter. In an effort to push up fares, the number two carrier announced plans that it would cut capacity on U.S.-U.K. flights due to British pound weakness following Brexit.
Playing the Long Game with Near-Term Results
Looking ahead, aircraft-makers Boeing and Airbus both see huge growth in deliveries as the global middle class continues to swell in rank. In its Current Market Outlook, Boeing projects total demand for nearly 40,000 new jets over the next 20 years—a 4 percent increase over last year’s forecast—with a large percentage of the growth occurring in Asia. Altogether, these deals are valued at a monumental $5.9 trillion, the plane-maker says.
Airbus’ forecast, while somewhat more conservative, is no less impressive in our view. The French airline manufacturer sees demand for more than 33,000 new aircrafts between now and 2035, all with a market value of $5.2 trillion.
The lion’s share of this expansion is expected to take place in emerging and developing countries such as India and China, where middle class growth is booming. Higher incomes should heat up flight demand and help air traffic double over the next 15 years, according to Airbus, adding that in India alone, air traffic is expected to accelerate fivefold between now and 2035. The Federal Aviation Administration (FAA) sees the number of global revenue passenger miles rising from 877 billion in 2015 to 1.02 trillion in 2024. Growth should also remain steady in mature, or stabilized, economies such as the U.S., Canada and Western Europe.
In the near term, domestic airlines continue to trade at extremely low multiples compared to other stocks in the industrials sector. Compare airlines’ price-to-earnings (P/E) ratios to transportation stocks and the broader stock market. Whereas American is trading at a little over 4 times earnings as of July 15, transportation stocks—which include trucks, railroads and other industrials—trade at more than 14 times earnings. The S&P 500 Index, meanwhile, currently trades at more than 20 times earnings.
Domestic carriers also continue to return money to shareholders in the form of dividends and stock buyback programs. American, for example, repurchased more than 50 million shares, worth $1.7 billion, in the second quarter. As of March, Southwest Airlines had a phenomenal three-year dividend growth rate of 101.2 percent, according to GuruFocus data. This helps support the thesis that the industry offers many attractive buying opportunities right now.
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Fund holdings and allocations are subject to change at any time and should not be considered a recommendation to buy or sell any security.
The price to earnings ratio (P/E ratio) is the measure of the share price relative to the annual net income earned by the firm per share. The P/E ratio shows current investor demand for a company share. A high P/E ratio generally indicates increased demand because investors anticipate earnings growth in the future.
Dividend growth rate is the annualized percentage rate of growth that a particular stock’s dividend undergoes over a period of time. There is no guarantee that the issuers of any securities will declare dividends in the future or that, if declared, will remain at current levels or increase over time.
The S&P 500 Stock Index is a widely recognized capitalization-weighted index of 500 common stock prices in U.S. companies. The S&P Transportation Select Industry Index represents the transportation sub-industry portion of the S&P Total Stock Market Index.