The debate over the quality of the airline stock rallies hit extreme levels in the last week. The opinions are bifurcated as to whether companies like Delta Air Lines (NYSE:DAL) are out of the woods from the effects of the quarantine. DAL stock rallied 100% off the bottom. My problem with that was not the amplitude of the move, but rather the reasons behind it.
Investors were celebrating a better cash position to survive this difficult period. But they were completely ignoring the fact that the company is getting buried in more debt. The better news to chase would be about improved sales. They can work on profitability later, but at least with a sharp increase in revenues would go a long way towards repairing the broken conditions that airline stocks are suffering from currently.
Things Are Better But Far from Good
Air traffic, while much improved over the last few days, averaging about 500,000 screenings per day, is still miles away from being healthy. In fact according to the Transportation Security Administration (TSA) website, they are still running at 80% below last year’s normal traffic. There is a long way to climb back to normal and therein lies another big problem. What is going to be normal going forward is definitely not the same as before. Airline stocks have struggled for decades to fix their challenged business model, which always has had giant hindrances. Going forward, it’s going to be the novel coronavirus that adds a new wrinkle because they will have to deal with new rules and regulations to restrict the maximum capacity.
If health officials insist on six feet of separation between clients, then airlines will go bankrupt. The more likely scenario is that they will fill every other row, and that also would be a huge financial burden. The public will suffer tremendously also because the prices for flying will skyrocket. This is a form of inflation that is hard to measure with the CPI, but the Federal Reserve will have to address it. And therein lies another problem because if the Fed sees inflation it will pull back on its stimulus.
Investors Should Be Tactical Trading DAL Stock
I know I sound bearish, but this is nothing against DAL stock or any other one of its competitors for that matter. In fact, on the way down, as these stocks were crashing, I wrote about catching the falling knives and the trade yielded healthy profits. But this massive rally is now borderline lunacy. Moreover the gap around $40 per share is going to need more oomph to fill. And here’s where the opportunity lies. If DAL stock can break above $37.50 per share, it can spark a huge rally to target the gap at $56 per share.
It won’t be easy and there will be plenty of hindrances in the way. But the technical aspect of breaching the most recent failure on June 4 can provide enough strength to do it. More positive headlines will help like the news that Delta will be adding thousands more flights every month.
The Company’s Bottom Lines Are in Limbo
Fundamentally, it’s hard to evaluate the company now because we do not know what their profit-and-loss statement is going to look like. All we know is that management’s priority is to reduce the cash burn and that they borrow enough cash to withstand a few more months of lean sales. They are bleeding about $40 million per day, so this is hardly a reason to celebrate. Load factors are low and that is on a reduced number of flights, so they are flying fewer trips and they are barely half full.
The best trades are when emotions are not involved and this is where the charts can help a lot. Cover up the ticker and judge the chart patterns. In this case, buying the dip towards $24 makes sense as well as chasing the rip above $37.50. Anything in between is for active traders only. Long-term investors who love the stock should just own it based on their own individual thesis. The short-term DAL stock gyrations should mean very little to them for as long as their thesis is viable.
Nicolas Chahine is the managing director of SellSpreads.com. As of this writing, he did not hold a position in any of the aforementioned securities.