Signs Point To Airline Industry Secular Bull Market
Frank Holmes | Apr 06, 2015 02:41PM ET
The week before last I was in Melbourne, Australia, attending a conference for chief executives from all over the world. While there, I spoke with many of my peers about the airline industry, which is currently in a three-year bull run as measured by the S&P 500 Airlines Index.
I was surprised to learn that several people incorrectly assumed that the airline industry is included in the consumer discretionary sector of the S&P 500 Index. It does seem as if it belongs there, along with travel, hospitality and leisure. But the industry actually qualifies as an industrial.
Regardless of which sector airlines belong in, the fleet has flown past both industrials and consumer discretionaries for the five-year period.
An airline industry report by J.P. Morgan stated last week:
We believe in the persistence of cash flows and the presence of a good structural model. The sector has begun to show us their success instead of repeating “trust me”… [T]he cash is real, the margins are real, the buybacks are real.
In light of this success, some analysts are concerned that airlines, flush with cash for the first time in recent memory, will increase capacity too quickly and outpace demand.
Two main arguments can be made here. For one, the industry is highly correlated to a nation’s GDP, and carriers have historically avoided growing faster than the economy by too wide of a margin. The second argument has to do with what experts believe is an imminent pilot shortage in the U.S.
h3 Pilot Shortage Ahead?/h3
The Federal Aviation Administration (FAA) mandates that all pilots must retire at age 65, which should open up many commercial airliner positions over the coming years. But because the starting salary with a regional carrier is around $20,000 per year, fewer and fewer would-be aviators can justify the typical $50,000-a-year flight training, not to mention the required 1,500 hours of flight time before they can even be considered for a position.
You might be wondering why carriers aren’t able to make up the difference by recruiting more pilots out of the military. The reason is because a greater number of people are being trained now to fly drones than jets—and piloting a drone doesn’t count toward commercial flight hours.
This all might sound like troubling news, but it actually has the effect of encouraging discipline, reining in excessive spending and curbing carriers from growing too exuberantly. They can always increase seat capacity—to a certain extent, of course—but generally they’re not going to spend money needlessly on new aircraft if there are fewer people available to pilot them.
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Disclosure: The S&P 500 Stock Index is a widely recognized capitalization-weighted index of 500 common stock prices in U.S. companies. The S&P 500 Industrials Index comprises those companies included in the S&P 500 that are classified as members of the GICS industrials sector. The S&P 500® Consumer Discretionary Index comprises those companies included in the S&P 500 that are classified as members of the GICS® consumer discretionary sector. The S&P 500 Airlines Index is a capitalization-weighted index.
The following securities mentioned in the article were held by one or more of U.S. Global Investors Funds as of 12/31/2014: Delta Air Lines, Inc.; Alaska Air Group.
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