The tide seems to be turning for the airlines sector as Warren Buffett’s Berkshire Hathaway recently bought stakes in four major U.S. carriers – Delta Air Lines, Inc. (DAL), American Airlines Group Inc (AAL), Southwest Airlines Co (LUV) and United Continental Holdings Inc. (UAL).
The move naturally found favor with investors since Buffett, the founder and CEO of Berkshire Hathaway Inc. (BRK.A,BRK.B), is commonly regarded as one of the greatest (if not the greatest) investors of all time.
According to the Omaha, NE-based company’s third quarter 13-F filing, Buffet has invested in Delta Air Lines, American Airlines and United Continental. The fact that the iconic investor has also betted on low-cost carrier Southwest Airlines was revealed via a CNBC report.
The move has come as a complete surprise since Buffet historically did not favor airline stocks. According to media reports, his last involvement with the airlines sector was way back in the 1980s when he invested in U.S. Airways. The experience was anything but sweet and consequently Buffet turned his back on airlines.
He was so disgruntled with the sector that he once said that “it has eaten up capital over the past century like almost no other business.” No doubt his move to buy stakes in major U.S. airline stocks was completely unexpected and consequently has attracted a lot of attention.
The move is all the more surprising since it comes at a time when carriers are facing multiple headwinds like declining air fare, low demand for travel due to security fears, technological problems and Brexit-induced uncertainty to name a few.
Recent Sector Tailwinds Help Carriers Exceed Expectations
Despite being plagued by headwinds, the third quarter (which recently concluded for airline stocks) did see quite a few airline players including the four in which Buffett has put his money on, reporting better-than-expected earnings per share – though undoubtedly aided by low expectations.
In fact, carriers like United Continental Holdings, American Airlines, Alaska Air Group, Inc. (ALK) and SkyWest, Inc. (SKYW), have not only topped earnings expectations but have also outperformed in terms of revenues.
In fact, SkyWest’s Zacks Rank #1 (Strong Buy) bears evidence of the improving condition. You can see the complete list of today’s Zacks #1 Rank stocks here. The better-than-expected third-quarter performance can be gauged by the 9.2% gain the NYSE ARCA Airline Index over the last one month.
Moreover, woes related to unit revenues that have hurt airline stocks for quite some time seem to be easing. American Airlines recently unveiled a bullish outlook on unit revenues for the fourth quarter of 2016. The carrier now expects total revenue per available seat mile (TRASM: a key measure of unit revenues) to decline in the band of 0.5% to 2.5% in the fourth quarter. The view represents a marked improvement from the guidance issued last month when the metric was expected to decline in the band of 1–3%.
Delta expects to return to positive unit revenue growth early next year. Moreover, RASM at JetBlue Airways Corporation (JBLU) decreased 3.5% in the third quarter. This indicates an improvement from the 8.2% decline in the second quarter.
Also, fears related to overcapacity have been plaguing airline investors for quite some time. However, the bullish capacity-related updates recently provided by several carriers are putting to rest such fears. In September, Southwest Airlines announced that it expects 2017 capacity to expand less than 4% on a year-over-year basis.
The projection compares favorably with the view for 2016, wherein capacity is estimated to increase in the range of 5% to 6%. Furthermore, while releasing its third-quarter results, Delta said that it expects 2017 capacity to expand merely 1%, in line with the projection for the fourth quarter.
Moreover, the current scenario of rising oil prices could turn out to be favorable for airlines. This is because carriers are likely to hike air fares in such a scenario. This will ultimately augment the top line.
Additionally, the approval granted by the U.S. Transportation Department to eight U.S. carriers, including the four favored by Buffett, is a positive. Once operational, the top line of the concerned carriers should be boosted significantly as Havana is a favorite tourist spot.
The improving scenario for the airline industry can be further gauged by fact that the current Zacks Industry Rank of 161 (among more than 260 groups) for the Transportation-Airline division is much more favorable than the 200+ rank carried a month ago.
Given the recent improvements, the involvement of one of the most revered investors of all times will undoubtedly usher in better days for the sector. While we expect these developments to rekindle the interest of investors in the aviation space, the picture will become clearer only with the passage of time.
See our relevant video article here.
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