How Airlines are Making New Millionaires

THE BRIEF

• Airline stock prices have plummeted over 60% in value with air traffic down over 90%.
• Investors looking for undervalued opportunities are questioning whether this is a good sector to buy.

THE EXPLANATION

To understand airline economics, you need to know one thing – airlines are a terrible business. Airlines are notorious for making millionaires. The only catch is, these millionaires started off as billionaires. Airlines have a reputation of losing money, are difficult to run, and are easily impacted by oil prices and travel conditions. Does this mean that airlines are a bad investment? At the right price and level of diversification, no.

Current Airline Environment:

• On May 12, The CEO of Boeing, the largest aircraft manufacturer, made a public statement that a major US airline will likely go bankrupt.
• Experts warn of a slow recovery that is predicted to take years rather than months.
• Airlines are running out of cash and are being forced to take on otherwise unnecessary debt (i.e. government loans) and issuing additional shares to investors.

PRO TIP: Debt adds pressure on airlines with future interest and debt repayments. Issuing additional shares is similar to splitting a pizza, the more people you have, the less you get.

On April 14, the International Air Transport Association estimated the loss in global airline sales to be $314 billion, which is 40x more than airline losses after the 2008 recession. It took airlines 6 years to recover from a 50% drop in value.

THE ACTION

Airlines will surely recover but it could take years to return to their previous highs. Those considering investing in airlines must look at their opportunity cost. Are you prepared to invest in an asset that could potentially take years to recover?

PRO TIP: To avoid the risk of investing in an airline that will go bankrupt, consider investing into multiple airlines (diversification) or buying an airline ETF (JETS) that owns over 30 different airlines.