Airline stocks have defied gravity lately, with major U.S. carriers posting strong fourth-quarter earnings that benefited from a plummet in oil prices. But since major airline stocks have gained more than 90% over the past year, it makes sense to question whether the run-up in airline stocks can continue to soar.
Most major U.S. airlines announced strong quarterly earnings over the past couple of weeks. Delta Air Lines, Inc. (NYSE:DAL), United Continental Holdings Inc (NYSE:UAL), American Airlines Group Inc (NYSE:AAL), Southwest Airlines Co (NYSE:LUV) and JetBlue Airways Corporation (NASDAQ:JBLU) all topped analysts’ bottom-line expectations in the fourth quarter.
Much of the credit goes to fuel prices that have fallen by as much as 50% in the past six months. Since jet fuel can represent 30%-to-40% of airlines’ operating costs, even relatively small shifts in the price of a gallon of jet fuel can make a huge difference in profitability.
Although high fuel prices are bad for airlines, fuel price volatility is much worse. Airline stocks took a huge hit this week as crude oil prices bounced on Monday and Tuesday, but slumped Wednesday on higher-than-expected inventories.
North American airlines are poised to generate $13.2 billion in net post-tax profits — the highest of any region, according to the International Air Transport Assn. Lower fuel prices, consolidation, improved load factors and growth in fees and other ancillaries are giving the commercial airline sector high hopes for 2015. Although airline stocks have been on a tear and have very attractive valuations now, some stocks are better than others. Here are two airline stocks to book and two to bump.
Airline Stocks to Book: American Airlines (AAL)
American Airlines Group Inc. (AAL) CEO Doug Parker has done a lot of things right since US Airways acquired American out of bankruptcy at the end of 2013, but some of the airline’s biggest returns stem from the decision to dump American’s fuel hedges. American has been able to take full advantage of plummeting fuel prices and expects to save the airline a whopping $5 billion in fuel costs this year.
AAL had a great fourth quarter, earning $597 million on revenue of $1.16 billion. That’s a far cry from the $2 billion loss the carrier posted a year earlier, which included charges related to American’s bankruptcy. American also inked a 5-year contract with its pilots — a huge win for the airline, particularly since two-thirds of the airline’s pilots approved the deal.
AAL stock has a price to earnings growth (PEG) ratio of just 0.22 and a forward P/E of 5, the sector’s lowest. Despite the fact that AAL has surged 36% in the past year, this stock may have further to fly.
Airline Stocks to Bump: Delta Air Lines, Inc. (NYSE:DAL)
The good news for Delta Air Lines, Inc. (NYSE:DAL): Adjusted earnings of 78 cents per share in the fourth quarter beat the Street by a penny, and DAL’s $9.65 million in revenue beat estimates by $70 million. The carrier also saved some $342 million in fuel costs.
The bad news: Losses on DAL’s fuel hedges caused the carrier to take a $1.2 billion charge.
Another potential headache in a cheap oil environment is DAL’s Trainer oil refinery, which the airline bought in 2012 to lower its fuel costs. Airlines and oil refineries have a couple of things in common — they’re expensive, risky, heavily regulated and notoriously tough to turn a profit. DAL stock has gained 47% over the past year, but it might be time for the stock to take a breather.
Airline Stocks to Buy: JetBlue Airways Corporation (NASDAQ:JBLU)
JetBlue Airways Corporation (NASDAQ:JBLU) reported fourth-quarter earnings of 26 cents per share — beating the Street by 3 cents and an increase of 86% over the same quarter last year. Revenue was in line at $1.45 billion.
JBLU predictably benefited from low fuel prices — average fuel costs fell by nearly 13% in the fourth quarter, although JBLU did get its wings clipped for $26 million in fuel hedge losses. But perhaps the biggest positive impact on JBLU’s operations stems from its ancillary revenues, particularly sales of its “Even More” offering — which boasts more legroom, priority boarding and expedited security screening.
JetBlue estimates that its ancillary revenue grew by 11% in 2014 to $745 million. The airline will continue to grow ancillary revenue in 2015 by introducing segmented fares like its “Mint” business class offering.
JBLU is a buy now because it is attractively valued, with a PEG ratio of 0.2 and a forward P/E of 9.2. If passengers embrace Mint’s more spacious offering it will go a long way toward helping the airline to increase ancillary revenues $200 million by 2017.
Airline Stocks to Bump: Southwest Airlines Co (LUV)
For the most recent quarter, Southwest Airlines Co (NYSE:LUV) reported earnings of 59 cents per share, beating analysts’ estimates of 55 cents. Fourth-quarter revenue came in at $4.62 billion, above the $4.59 billion analysts expected.
Although LUV has made great strides in the integration of the former AirTran into its operations, the combined carrier will still face headwinds related to that deal. LUV was buoyed by stronger freight revenue, but other revenue declined by 9% year-over-year, largely due to the loss of fees once charged by AirTran. LUV expects the year-over-year decline in total revenue to continue into the first quarter of this year.
Another headwind: a $1.6 million fine for violating federal rules on excessive tarmac delays. Although there’s a lot to love about LUV, now is not the best time to buy this stock.
As of this writing, Susan J. Aluise did not hold a position in any of the aforementioned securities.
