The airline industry has been on fire, surging higher as American Airlines (NASDAQ:AAL) stock led the rally. United Airlines (NASDAQ:UAL) didn’t miss out either, with UAL stock ripping 169% from the May lows.
While the stock is pulling back, shares are still up about 120% from those lows, as investor optimism climbed considerably in a short period of time. Helping to fuel that optimism has been part of the “reopening America” trade.
I have been noting this trade for a few weeks now, as everything from cruise operators to restaurant stocks have come roaring back to life. But that’s what this is — a trade — not an investment. There is still a lot of negativity and uncertainty surrounding these stocks.
Unfortunately, UAL stock isn’t excluded from that observation. Let’s take a closer look at the business.
Sizing Up Airlines
When Warren Buffett sold his airline positions, many investors wondered why the Oracle had taken so long to exit. I’m pretty neutral toward Buffett. I don’t hang on his every word and move, but I have a ton of respect for one of the market’s greatest investors.
He exited his four airline positions — United Airlines, American Airlines, Southwest Airlines (NYSE:LUV) and Delta Air Lines (NYSE:DAL) — as he explained during Berkshire Hathaway’s (NYSE:BRK.A, NYSE:BRK.B) annual meeting. But Buffett wasn’t looking at the next two to three weeks or even the next couple of months. He was looking years down the road.
Some have predicted that airlines won’t recover 25% of their prior traffic by September. However, American Air said it plans for 50% of July 2019’s schedule to fly in July 2020. America is reopening and the public is not hesitating to book trips, pack into restaurants, and put the novel coronavirus behind them. That’s even as we’re seeing cases on the rise again.
Valuing United Airlines
Even with the recent rise in enthusiasm, the recovery to pre-coronavirus levels will take a while. And even then, remember that airlines stocks did not command a premium valuation. Do you think they will now, given the rather dire circumstances we’re seeing?
Remember, this isn’t Apple (NASDAQ:AAPL), where the companies have robust balance sheets and delayed revenue from a dip in iPhone sales. U.S. airport traffic decreased by about 90% at the peak and is still more than 80% off year-over-year levels.
DAL and LUV are the balance-sheet leaders, putting UAL stock in a tough spot. The company will weather the storm, but it’s burning $40 million to $45 million in cash per day. United’s balance sheet will also feel the pressure, as it borrows to stay afloat.
Analysts expect United to see a 56% decline in revenue this year, with sales falling from $43.26 billion in 2019 to just $19 billion this year. In 2021, estimates call for a 65% rebound, but to just $31.73 billion. Like I said, this isn’t likely to be fast recovery.
After earning $12.05 per share last year, United is forecast to lose an incredible $19.49 per share in fiscal 2020. While that figure is sure to change, it shows the astronomical impact to the business. 2021 forecasts call for essentially break-even operations, with profit just $1.68 per share. That’s still down 86% from 2019.
Trading UAL Stock
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While the return to normalcy will benefit airlines stocks in obvious ways, it’s hard to argue that the decline was an overreaction. Revenue was crushed, as expenses dragged on and the companies burned through cash. With the prospect of a slow return to flying, who is left to buy the stocks when they have rallied so much?
UAL stock climbed almost 170% from the May low. The reopening of the country was more robust than expected, so a rally is deserved. However, this seems like too much, too fast.
Should uptrend support fail to buoy United, look to see if the 23.6% retracement near $33 can support the stock. This level had been resistance for several months before United broke out above this mark. If it fails as support, see how UAL stock does with the 50-day moving average, currently near $28.
On the upside, see if UAL can reclaim the 38.2% retracement and 100-day moving average. If it can, it puts $50 and the 50% retracement in play.
Bret Kenwell is the manager and author of Future Blue Chips and is on Twitter @BretKenwell. As of this writing, Bret Kenwell is long AAPL.
