As America's largest airline companies close out the this earnings season, Wall Street as a whole is becoming increasingly upbeat on growth prospects for the underperforming industry into 2019. In response to results, one team of analysts is recommending that investors buy airline stocks now and hold for at least six months, as outlined by Barron's.
Strong Demand, Revenue Environment Outweighs Industry Headwinds
While analysts have honed in on downside drivers for U.S. airlines, such as pricing wars, increased capacity, and lower margins, dragged down by higher fuel and labor costs, JPMorgan wrote a note on Tuesday indicating that in general, the "case for industry margin expansion remains the best we've seen in four years."
"By comparison, the current setup looks highly compelling to us. 2019 capacity is anticipated to be tighter than 2018 (~3.5% versus ~4.5%), and we remain of the view that further cuts are likely in the event fuel rises from here," wrote JPMorgan analyst Jamie Baker.
As for labor costs, the analyst has accounted for a 7% wage increase for pilots at United Continental (UAL) into his forecast. The forward curve for fuel prices also looks "comparatively benign," said the airline bull. While some on the Street are worried about higher than expected consolidated growth in capacity, seen as driving down ticker prices, Baker noted that it is still about a point below the 2018 level.
Out of the group, Baker recommends JetBlue (JBLU), which he upgraded from neutral to overweight, alongside American Airlines (AAL) and Delta Air Lines (DAL), which he also rates at outperform. The JPMorgan analyst cut Southwest Airlines (LUV) stock to underweight from neutral and reduced his price target by $11, citing pricing issues that are helping the discount carrier's competition.
Baker wrote that over the last 11 years, when investors bought in September or October and held until April or May, they generated outsized returns compared to the broader market.
Analysts at Macquarie echoed the upbeat sentiment on Tuesday, writing that, "generally speaking, we believe we are seeing the continuation of a strong demand and revenue environment into the end of the year, lending itself to fare increases and ancillary opportunities."
Macquarie's Susan Donofrio acknowledged that rising fuel costs leave little margin for error, which can put stocks at risk of sharply adverse reactions to company-specific issues, explaining Southwest's recent plummet on its higher cost outlook for 2019. Macquarie's top pick in the industry remains Southwest, which Donofrio views as oversold. She also rates Hawaiian Holdings (HA), Delta, American, United and Spirit Airlines (SAVE) at overweight.
In general, bulls view strong revenue trends, solid demand for air travel, new fee structures, and a renewed focus on tightening capacity to ease investors' worries over the upcoming analysts days.