To understand airline stocks you have to understand the variables that airlines have to deal with.
Are airlines filling their seats? How much do they have to pay crew and maintenance workers? How much do they have to spend on fuel?
The final question seems the most important to me since fuel costs are the single biggest expense associated with running an airline.
Just take a look at this table from Spirit Airlines’ (Nasdaq: SAVE) most recent quarterly earnings report, which includes July, August and September of this year.
As you can see Spirit Airlines’ fuel costs are huge, roughly 40% of its entire operating costs. In fact, Spirit spends roughly the same amount on fuel as it does on salaries, renting aircraft, airport fees and distribution combined!
The story is similar for other airlines in other quarters.
The simple fact is that airlines spend a lot of money on fuel. It seems reasonable then that airline stocks would benefit from the low oil prices that we’re seeing today. Right? Right.
Let’s look back at the table from Spirit’s last earnings report. Note that in the quarter ended Sept. 30, 2014, the airline spent $171.6 million on fuel. In the same quarter of 2013 the airline only spent $145 million on fuel.
What did oil prices look like during these quarters?
Here is a look at the price of Brent Crude oil during the third quarter of 2013. Note that I have included the previous three months as well for some context. The same way that it takes some time for gas stations to lower their prices after oil prices have fallen, there is some lag between lower oil prices and lower airline fuel prices.
Now let’s take a look at the same period in 2014.
The charts show us that in 2013, when oil prices stayed below $106 per barrel for almost all of Q2, Q3 fuel costs came in at around $145 million.
But in 2014, when oil prices stayed above $105 per barrel for all of Q2, Q3 fuel costs came in considerably higher, roughly $171.6 million.
Based on the chart above of Q3 2014 oil prices, I would expect Q4 fuel costs to come in around the $145 million mark we saw in Q3 2013. And considering how fast oil prices are falling, I would expect fuel costs to continue to drop until we see a recovery in the crude oil market.
Before you go out and load up on airline stocks you should know that the relationship between low oil prices and lower fuel costs isn’t a well-kept secret.
Just look at the performance of several major airline stocks relative to the price of the major fund tracking the price of Brent Crude oil, the United States Brent Oil Fund (NYSE: BNO). The chart below compares the Brent fund at its mid-June peak to the stock performance of Spirit Airlines, JetBlue (Nasdaq: JBLU), Southwest Airlines (NYSE: LUV), Alaska Air Group (NYSE: ALK) and United Airlines (NYSE: UAL).
As you can see, these stocks are all moving significantly higher as crude oil prices continue to move significantly lower.
These airline stocks were all caught up in the October market turmoil. But since the major trend driving them higher – lower oil prices – remained unchanged, all of them have recovered their previous positive trend.
The takeaway for investors is this: Clearly, airline stocks benefit when oil prices fall. And while airline stocks have risen considerably against the falling price of crude oil, they are not immune to the whims of the market. But the whims of the market can equal a tremendous buying opportunity.
If you see airline stocks fall again while crude oil prices continue to plummet, consider that another great buying opportunity.
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