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Airfares Continue to Plunge: What’s in Store for Airline Stocks?

Zacks

The airline space has been facing multiple headwinds of late. Be it the surge in terror attacks, technological problems, the Brexit episode or capacity woes, the problems for this sector seem unlikely to abate any time soon. The continuous decline in airfares is another concern for airline stocks.

August Fares Continue to Fall

According to data released by the Bureau of Transportation Services, average airfares (unadjusted) fell 3.5% year over year in August. Moreover, airfares declined 5.5% in August compared with the ticket prices in Jul 2016. The August reading followed the 4.6% year-over-year decline in July. The fall in average airfares in the U.S. for Jul 2016 was the sharpest in over a year.

According to research firm Hopper, airfares (domestic roundtrip) had declined to $219 in August. The firm predicts that domestic airfares will continue to nosedive over the next six months, hitting a low of $210 in January.


Are Low Fuel Costs and Capacity Overexpansion to be Blamed?

Oil prices are hovering around the $44 a barrel mark. Although, crude has recovered from the 12-year low of around $26 per barrel it slipped to this February, it is nowhere near the above $100 a barrel mark witnessed in mid-2014. Soft oil prices are being cited as one of the main reasons for declining airfares. According to Hopper, jet fuel had declined in August to around $1.25 per gallon.

Apart from cheap oil, capacity overexpansion is being viewed as another major reason for falling airfares. August traffic reports of major carriers like Southwest Airlines LUV, American Airlines Group AAL, United Continental Holdings UAL and Alaska Air Group, Inc. ALK revealed a fall in load factor (percent of seats filled with passengers) as capacity expansion outweighed traffic growth. Airline behemoth, Delta Air Lines DAL too witnessed a decline in load factor as capacity expanded while traffic contracted.

TRANSPORTATION-AIRLINE Industry Price Index

TRANSPORTATION-AIRLINE Industry Price Index

Unit Revenue Woes Remain

While low air fares are favorable for fliers, it is likely to hurt the top line of airline companies, thereby resulting in lesser profits. Low oil prices, declining airfares and the constant fall in unit revenues have collectively spelt doom for major carriers.

Carriers have been affected by unit revenue issues for quite some time and despite efforts to bring about some improvement on that front, these woes are expected to hurt carriers going ahead. Lower fuel surcharges on international flights due to weak oil prices have hurt the top line of carriers. This is exhibited by the declining key revenue metric – passenger revenue per available seat mile (PRASM: a measure of sales relative to capacity for a carrier).

The PRASM-related issues persist and are evident from the 9.5% drop in the metric at Delta Air Lines in August. The metric was mainly hurt by the power outage, which crippled operations and resulted in 2,300 flights being cancelled over three days. Additionally, United Continental Holdings anticipates its consolidated passenger unit revenue to decline in the third quarter by 5.5–7.5%. Alaska Air Group, which is expected to acquire Virgin America VA by year-end, witnessed a 7.7% decline in PRASM in the second quarter.

The above mentioned factors clearly indicate that unit revenue issues are far from over for carriers and such headwinds will continue to hurt the top line of carriers going ahead. With airline stocks already stressed, the August reading on airfares imply further woes for the carriers on the top line front.

Industry Rank Highlights Woes

The bearish Zacks Industry rank of 208 (out of 260+groups) carried by the Transport-Airline group further highlights the present condition of carriers. With the entire industry struggling as reflected by the disappointing Zacks Industry rank, it is of little surprise that Buy-rated stocks are hard to find in the airline space. In fact, Latin American carrier Copa Holdings CPA is the only stock to sport a Zacks Rank #1 (Strong Buy) in the space. You can see the complete list of today’s Zacks #1 Rank stocks here.

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