American Airlines (NYSE:AAL) stock has been on a wild ride over the past few months, as the novel coronavirus pandemic – formally dubbed Covid-19 – has sent unprecedented shock-waves across the global air travel industry.
AAL stock came into 2020 around $30. By mid-May, the stock was trading below $10. Then, in the back-half of May and first week of June, AAL stock stormed back above $20 as America’s economic reopening efforts gained momentum, consumer behavior normalized and U.S. air traffic trends meaningfully improved.
Since then, American Airlines stock has given back some of those gains as a “second wave” of Covid-19 emerged across various states.
Don’t be afraid of this second wave. It won’t kill the U.S. economic recovery. It won’t kill the rebound in air travel. And it won’t kill AAL stock.
To that end, my two cents on AAL stock is simple: buy the dip on second wave Covid-19 fears.
Here’s a deeper look at why.
The Rebound is Here to Stay
Over the past few months, the U.S. economic recovery gained traction, and this rebound is here to stay.
Why? Because we’ve learned a lot about Covid-19 since March. The more we’ve learned, the more we’ve discovered that the fatality rate of Covid-19 isn’t all that high, and actually not too far off from the seasonal flu’s death rate.
As the science has shifted from, “it’s Black Death” to “it’s like the flu on steroids,” consumer behavior shifted, too. Instead of people saying, “we should stay inside at all costs,” they’re now saying, “we can live our regular lives with certain restrictions to appropriately manage risks.”.
Consequently, the emergence of a second wave won’t kill the U.S. economic recovery. It won’t force politicians to close everything down. It won’t scare consumers back into their homes. Instead, it will simply slow the recovery, via one-off store closures and injecting caution into consumers.
The big improvements we’ve seen in economic activity since March are here to stay.
That includes the big improvement we’ve seen in air traffic. From its mid-April lows to today, TSA recorded total traveler throughput at airports has risen more than 500%. Sure, total traveler throughput is still down 79% year-over-year as of mid-June. But that’s up from 90%+ declines throughout April and May, and represents the first time that the year-over-year decline has been less than 80% since March 21.
This improvement will persist. According to a recent Overseas Leisure Group survey, about three-fourths of Americans are already planning their next vacation.
As such, a second wave won’t derail the airline industry’s recovery. Sure, it may slow the recovery to an extent. But, between now and the end of the year, air traffic trends will significantly improve.
As they do, AAL stock will fly higher.
American Airlines Stock is Cheap
By my numbers, American Airlines stock is simply too cheap if you believe that air traffic trends will mostly normalize by 2022.
My base case model on AAL stock assumes a few things:
- Traffic and revenue get killed in 2020 before rebounding strongly in 2021 and almost fully normalizing by 2022, with some loss of business and personal travel. I’m modeling for 2022 revenues of $40 billion, versus 2019 revenues of $46 billion.
- Profit margins get killed, too, in 2020. They rebound slightly in 2021 and 2022 but remain below 2019 levels due to extra costs associated with more cleaning. Pre-tax profit margins hit 5% by 2022, versus 6%+ in 2019.
- American Airlines’ buyback program essentially grinds to a halt, and the company’s share count in 2022 is roughly equivalent to its current share count.
Under those assumptions, I see American Airlines netting about $3.50 in earnings per share by 2022. Based on a historically average forward earnings multiple of 7, that equates to a 2021 price target for AAL stock of nearly $25.
The stock trades hands around $17 today.
The Bottom Line on AAL Stock
If you believe that air traffic trends will normalize within the next few years, then buy the dip in AAL stock. If not, stay away.
It’s really that simple. Because, if traffic trends do normalize, then the stock is way undervalued. If they don’t, then the stock isn’t way undervalued.
I think the weight of evidence suggests that consumers are ready to get back to normal, and that Covid-19 won’t stop them from doing that. As such, I see air travel rebounding to quasi-normal levels by 2022, and AAL stock powering to $25 by 2021.
Luke Lango is a Markets Analyst for InvestorPlace. He has been professionally analyzing stocks for several years, previously working at various hedge funds and currently running his own investment fund in San Diego. A Caltech graduate, Luke has consistently been rated one of the world’s top stock pickers by various other analysts and platforms, and has developed a reputation for leveraging his technology background to identify growth stocks that deliver outstanding returns. Luke is also the founder of Fantastic, a social discovery company backed by an LA-based internet venture firm. As of this writing, he was long AAL.