Clear Skies Ahead For Airlines? 3 Stocks To Scoop Up
Zacks Investment Research | Dec 11, 2017 02:09AM ET
It seems that airline stocks are back in favor after facing multiple challenges for the greater part of 2017. Sector participants have been hampered by a number of headwinds like disruptions from back-to-back hurricanes, the devastating earthquake in Mexico, issues related to customer dissatisfaction and high costs (labor as well as fuel).
The lackluster performance of the sector in the first nine months of the year can be seen from the graph below. The chart clearly indicates that the Zacks Airline Industry had underperformed the S&P 500 Index in the above-mentioned period. While the S&P 500 index gained 11.9%, the industry rallied 8.8%.
Airlines Laid Low in Q3
It is a well-documented fact that airline stocks struggled in the third quarter of 2017 due to the negative impacts of the recent natural calamities. Even though most sector heavyweights like Delta Air Lines (NYSE:DAL) , Southwest Airlines (NYSE:LUV) , American Airlines Group (NASDAQ:AAL) and United Continental Holdings (NYSE:UAL) topped earnings estimates, the outperformance was primarily owing to the conservative nature of the Zacks Consensus Estimate.
In this context, let’s consider the case of American Airlines. In the third quarter, the consensus estimate for the carrier’s earnings was pegged at $1.39, much lower than the year-ago figure of $1.68. The conservative nature of the Zacks Consensus Estimate has made it easier for transportation companies to surpass them in the quarter.
In fact, higher costs led to a decline in quarterly earnings on a year-over-year basis for most carriers, thus revealing the sorry state of affairs for the sector. While the bottom line fell 7.6% and 5.4% at Delta and Southwest Airlines, respectively, at United Continental the metric was down 28.6%. American Airlines also reported a significant reduction in earnings in the same time frame.
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Moreover, multiple flight cancellations and continued soft demand for air travel to and from the affected areas due to the recent natural calamities hurt third-quarter results. For example, United Continental’s pre-tax income was hurt to the tune of approximately $185 million.
Improved Unit Projections Hint at Brighter Q4
Post-hurricanes, things are looking up for stocks in the airline space. This is evident from the fact that major players in the sector like Southwest Airlines and United Continental issued improved unit revenue views for the fourth quarter on the back of buoyant demand for air travel and improving yields.
United Continental now expects fourth-quarter consolidated passenger unit revenue (PRASM: a key measure of unit revenue) in the band of down 2% to flat on a year-over-year basis. The projection compares favorably with the earlier view that the metric might drop in the band of 1% to 3%.
Southwest Airlines expects operating revenue per available seat miles (RASM: a key measure of unit revenue) to increase between 1% and 2% (earlier view had called for the metric to be up slightly to 1.5 %) in the final quarter of 2017. Hawaiian Holdings anticipates fourth-quarter RASM to improve between 1.5% and 3.5%, up from the previous view of down 1% to up 2%.
Dividends/Buybacks Attest Solid Financial Health
Financial prosperity of the sector participants is reflected in the fact that the likes of Southwest Airlines, Delta Air Lines and SkyWest Inc. (NASDAQ:SKYW) have hiked their respective dividend payouts this year.
Carriers have also indulged in share buybacks that substantiates their solid financial health yet again. For example, United Continental recently announced a new $3 billion share repurchase program. The company’s previous $2 billion share repurchase program announced in July 2016 is expected to be completed by 2017-end.
In addition to the existing $100 million authorization, Hawaiian Holdings unveiled a new share repurchase program worth $100 million through Dec 31, 2019.
Notably, the robust financial health of most carriers has prompted them to invest substantially in improving flying experience for travellers, in a bid to stay afloat in the competitive airline space.
Bullish Projections
Of late, the bullish projections revealed by the International Air Transport Association (“IATA”) and Airlines for America (A4A) for 2017 profitability and the upcoming winter holiday season (Dec 15-Jan 4), respectively, further highlights the optimism surrounding the space.
According to A4A, the winter holiday season is expected to be a busy one for U.S. carriers. The organization expects 51 million passengers to opt for air travel during the period, reflecting a 3.5% increase from the 2016 figure.
An improving domestic economy and affordable air fares have resulted in the bullish forecast for this year. The rosy projection for the winter holiday period comes close on the heels of the robust performance of U.S. carriers in the Thanksgiving holiday period.
Even on the global front, the picture seems to be a bright one for airlines. This is signified by the bullish projection issued by the IATA with respect to the profitability level for 2018. The research firm predicts global net profit of $38.4 billion for the industry. This is much higher than the 2017 profitability forecast of $34.5 billion (increased from the $31.4 billion predicted in June).
The research firm has also predicted that the average net profit per departing passenger would be $8.90 per passenger in 2018 compared with $8.45 in 2017. Additionally, the improved projection for full-year 2017 by Gol Linhas Aereas Inteligentes (NYSE:GOL) is indicative of the improving Latin American economy.
Zacks Industry Rank Supports Favorable Scenario
The Zacks Industry Rank of 47 (out of 250 plus groups) carried by the Zacks Airline industry further highlights the attractiveness of railroads. The favorable rank places the companies in the top 18% of the Zacks industries.
We put our entire 250-plus industries into two groups: the top half (i.e., industries with the best average Zacks Rank) and the bottom half (the industries with the worst average Zacks Rank).
Over the last 10 years, using a one week rebalance, the top half beat the bottom half by a factor of more than 2 to 1.
Click here to know more: About Zacks Industry Rank Airline Stocks Should Grace Your Portfolio- Our Choices
The above write-up clearly suggests that the overall outlook for the sector has improved significantly. Picking up stocks from the airline industry makes for an extremely prudent choice at this time. However, picking winning stocks may prove to be difficult.
This is where our VGM score comes in. Here V stands for Value, G for Growth and M for Momentum and the score is a weighted combination of these three scores. Such a score allows you to eliminate the negative aspects of stocks and select winners. However, it is important to keep in mind that each Style Score will carry a different weight while arriving at a VGM score.
Each of the selected stocks sports a Zacks Rank #1 (Strong Buy) or 2 (Buy). You can see t
SkyWest operates a regional airline in the United States through its subsidiaries. The company sports a Zacks Rank #1 and a VGM Score of B. The company boasts of an impressive expected earnings growth of 27.3% for the current year.
The stock has seen the Zacks Consensus Estimate for current-year earnings being revised 1.8% upward, over the last 60 days. So far this year, shares of SkyWest have gained 44%, significantly outperforming the 11.8% rally of the Zacks Airline industry.
Gol Linhas Aereas Inteligentes is engaged in providing mobile geo-location services to its passengers and designing a Website featuring accessibility resources to assist people with visual and motor impairments.
The company sports a Zacks Rank #1 and a VGM Score of A. Also, it boasts of an impressive expected earnings growth in excess of 100% for the current year. Additionally, the stock has seen the Zacks Consensus Estimate for current-year earnings being revised in excess of 100% upward, over the last 60 days. So far this year, shares of GOL Linhas have skyrocketed 216.1%, significantly outperforming its industry.
Deutsche Lufthansa (DE:LHAG) Aktiengesellschaft (OTC:DLAKY) , which functions as aviation company in Germany as well as internationally. The company carries a Zacks Rank #2 and has a VGM Score of A. The Zacks Consensus Estimate for its current-year earnings climbed 19.4%, over the last 90 days. Shares of this German company have gained 175.2% year to date, outperforming its industry.
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