Stocks In Airline Industries Should Soar Higher In Spite Of Rally Hitting Turbulence.

Despite a strong start to 2023, the U.S. airline industry has experienced some turbulence in recent weeks.

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There is probably a good chance that not all airline stocks will keep climbing up as a result of the sector's huge gains this year. Even though leisure, international, and business travel are looking strong heading into the busy spring and summer months, now isn't the time to abandon the sector altogether, especially given its choppy trading and early indications that the sector appears to be in good shape heading into these months.

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If this proves to be true, then it is likely to favor larger legacy carriers, such as United Airlines (ticker: UAL) and Delta Air Lines (DAL).

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Over the course of this year, the NYSE Arca Global Airline Index, which tracks the progress of carriers around the world, is up 16%, outpacing the S&P 500 which is up 3.4% over the same period.

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United Airlines (UAL) is up 38% as of Tuesday's close, American Airlines (AAL) is up 26%, and the low-cost airline JetBlue Airways (JBLU) is up 28% after the close on Tuesday. In spite of the rally, Southwest Airlines (LUV) is one of the few major airlines that missed out on the rally - falling by 0.3% this year - as operational challenges over the holiday season have weighed on the stock.

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However, the index has fallen 6.5% from its early February highs, as the wider market has declined and investors have begun to question whether the sector's rally is over. Due to a strong demand coupled with capacity constraints, airlines have been able to hike fares in recent months, which has underpinned the sector's strong performance in recent months.

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The plans of the airlines to increase capacity in the coming year, along with the slowing of the trend in revenue per available seat mile, have led to concerns about how long the good times can last.

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In the 30 days leading up to Feb. 17, short sellers increased their bets against the industry despite giving back all their profits made during the pandemic period as a result of the 2023 rally, according to data from S3 Partners.

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“Ihor Dusaniwsky, S3 Partners' Managing Director, told Trade Algo that his firm is not seeing short covering in spite of the recent mark-to-market losses that have occurred recently.

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There is a good reason to be skeptical about where the sector will go next-a crucial period of the year for airlines is quickly approaching, and it is likely that this period will influence the rest of the year.

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March Madness

Analysts at Melius Research said that March is typically the month that makes or breaks an airline as leisure demand picks up as winter winds down, analysts said. The analysts recently downgraded the sector to Neutral from Positive, noting that it was "time to be more selective" because of the outperformance of the sector.

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Scott Group, a Wolfe Research analyst, lowered his market rating of the sector earlier this month to Market Underweight, citing record capacity growth, rising costs, and signs that revenue trends are slowing down as reasons. However, he continues to favor legacy airlines within the group, with Delta being rated as an Outperform airline, while JetBlue and American are rated as Underperform airlines.

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According to United Airlines, spring demand and, therefore, summer demand is likely to be strong this year, which is an early indication. Recently, the company announced that the number of bookings for March has risen by more than 30% compared to the same period last year. During the first few weeks of February, business demand has also recovered to 97% of what it was at the beginning of 2019.  

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Furthermore, there are signs that the strong pricing trend will continue in the future.

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It is estimated that the average round trip airfare to Europe in March and April will cost travelers $706–a 45% increase in 2022 and a 16% increase over the pre-pandemic levels of 2019—according to data from online travel agency Hopper. Airfare for domestic flights has jumped to an average of $264 per ticket, which is 20% higher than last year and 5% higher than it was in 2019.

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Summer Peak

As we move into the summer months, we can expect a resurgence in international travel. It is likely that those U.S. airlines that operate more international routes will benefit from the increased thrust as a result. If United's commentary on business travel is consistent across the industry, then the same can be said for leisure travel.

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Conor Cunningham, an analyst at Melius, noted that in terms of customer satisfaction, they prefer Delta, United, and Alaska Air. He stated that when looking for opportunities within the airline industry, we tend to gravitate toward the airlines that are experiencing further upside in the recovery (corporate & international travel) and that are running stable operations.

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Southwest isn't a contender based on this hypothesis, despite the fact that it emerged relatively unscathed from last week's winter weather, at least compared to its holiday travel disruptions the previous year.

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The risk may not be worth it, but if investors are willing to accept that Southwest Airlines has become more resilient since the holiday season, Southwest stock may be able to catch up on some of the rallies that it missed at the beginning of the year.

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