Facebook
Twitter
Airline stocks haven’t been a good investment for decades. The nature of the business has been to undercut competitors with lower prices, which has made profits in the industry hard to come by.
Hence, the number of bankruptcies and mergers throughout the years. In just the last 10 years, we’ve gone from 10 major U.S. airline operators to just four.
But a perfect storm is brewing that could finally make the airline stocks worth owning. The first factor is the decrease in competition, which has led to more rational pricing and higher profits. Then there’s the fact that oil prices are at their lowest level since 2008.
Jet fuel is one of the major input costs for airlines. Last year, U.S. airlines spent nearly $50 billion on jet fuel. Cheap oil is great for airlines. However, there’s more to the story. As oil prices remain lower for longer, there’s a big opportunity for major airlines to save a lot of money and reinvest that money to spur future growth.
With that in mind, here are the top three airlines to own, thanks to lower oil:
No. 1: American Airlines (NYSE: AAL)
With the U.S. Airways merger nearly two years ago, American Airlines is now the largest U.S. airline operator. It runs over 6,500 flights a day. And as the largest airline operator, it uses the most fuel. Thus, it has the most to save from low oil prices.
But it gets better for American Airlines. Where, of the major airlines, American is the only one that doesn’t have any fuel hedges. Meaning they are fully enjoying the fall in oil prices. The money they’ll be saving from the fall in oil goes directly to the bottom line.
With all this money flowing to the bottom line, airlines are having to find ways to spend that money. The easy answer is to return it to shareholders. American Airlines offers a 0.9% dividend yield and recently put in place a $2 billion buyback – which comes after it already completed a $1 billion buyback plan earlier this year.
American Airlines has the potential to have repurchased more than 10% of its market cap in less than 18 months. And trading at a price-to-earnings ratio of 7.5x, American Airlines is still one of the cheapest airlines around.
No. 2: Delta Air Lines (NYSE: DAL)
Just the other week, Delta Air Lines said that it will spend 30% less during the second half of 2015 on fuel than it did in the first half of the year. Then, in 2016, most of Delta Air Lines’ hedges will roll off and it will be able to see the full benefit of lower oil prices then.
Delta could use its saving to continue being a leader on the dividend front – where it pays a 1.2% dividend yield. With this, it could become a long-term dividend growth story. It also recently announced a $6 billion share buyback plan. But it’s also looking to upgrade its fleet to more fuel-efficient aircraft.
No. 3: United Airlines (NYSE: UAL)
United Airlines operates over 5,000 flights a day across the globe, having main hubs in major cities like Chicago, Los Angeles and Washington D.C. The stock is up 175% over the last five years, outperforming the S&P 500 by over 100 percentage points. This comes despite some integration hiccups from the 2010 merger with Continental.
United also has a large number of net operating losses, upwards of $10 billion, that it can use to offset income taxes going forward. As for fuel costs, only about 20% of its fuel consumption is hedged for 2015 and less than 5% of its planned fuel consumption for 2016 is hedged.
American’s fuel savings will be used to replace its current fleet with newer planes. It also plans to use cash to pay for these new planes, instead of relying on debt.
In the end, assuming the new airline industry has enough discipline to maintain pricing and fare rationale, all the companies will be winners in their own right. As airlines see their largest input cost down around multi-year lows, they still have a lot to gain. But in the near term, it looks like American has the most to gain and trades at the cheapest valuation.
Collect Dividend Income Every Month!
We’ve put together a simple calendar that pulls together all the market’s best dividends into a single, easy-to-read document. One look, and you’ll be able to set up a 12-month dividend stream for regular income every month.