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Avoid the ‘terrible economics’ of airline stocks, says trader

Mohit Oberoi
Author: Mohit Oberoi

Last Updated: July 22, 2020
airline stocks

Todd Gordon, a managing director at Ascent Wealth Partners advised investors to avoid airline stocks due to their “terrible economics” hours before United Airlines reported its second-quarter earnings on Tuesday.

Gordon said that airline companies have” high fixed costs” and “very little pricing power,” he told CNBC’s Trading Nation. Calling Delta Airlines “best in class,” Gordon said that he expects widespread bankruptcies in the sector. Many airline companies have filed for bankruptcy this year including LATAM, Latin America’s largest airline company.

“They’re scrambling to cut costs, they’re likely to continue to burn through a significant amount of cash until this demand picks back up, and Warren Buffett, rightfully or wrongfully so, sold his entire position in US airlines. So, for now, we’re staying away, said Gordan.

United reported an adjusted net loss of $2.6bn for the June quarter on Tuesday, or a $9.31 per-share loss, versus a $4.21 per-share profit a year ago, as revenue dropped 87% to $1.475bn.

The airline burned through about $40m per day in the second quarter but sees that amount slowing to roughly $25m in the third quarter as it increases flights. However, the Chicago-based carrier warned that travel demand will remain suppressed until there is a widely accepted treatment or vaccine for coronavirus.

Market opinion has been quite divided over airline stocks. In May, famous investor Warren Buffett disclosed that he has exited the stake in all four airline companies that Berkshire Hathaway was holding.

“The world has changed for the airlines. And I don’t know how it’s changed and I hope it corrects itself in a reasonably prompt way,” said Buffett in May at Berkshire Hathaway’s annual meeting. Meanwhile, retail investors brought into airline stocks as they plunged. While US airline stocks have recovered from their 2020 lows, all of them are still trading at a sharp year to date loss.

Gordon also pointed to US Global Jets ETF that closed at $16.27 on Tuesday. “We’re struggling to hold that $15 support after the short squeeze up to 22,” he said. “If we were to break back below 15, that is concerning.”

Boris Schlossberg, managing director of FX strategy at BK Asset Management echoed Gordon’s views. “If you think about the airline business, 10% of travel is business travel, and that’s responsible for 75% of profits. And … most business travel just simply isn’t happening,” said Schlossberg.

He also pointed to an increasing preference for Zoom meetings as compared to business travel. In May, Zoom Communication’s market capitalization soared above the combined market capitalization of the top seven airlines.

“Given that dynamic where you basically have to chase the lowest common denominator, that very, very price-sensitive customer, [it’s] very tough to make money,” said Schlossberg. He added: “Within that parameter, though, I think JetBlue, probably because they’re just insisting on quality and maintaining that everybody must wear a mask and creating a standard of trust, is an interesting pick.”

He also pointed to Southwest Airlines that does not depend much on business travel and “can execute within this very, very challenging environment.”

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Mohit Oberoi

Mohit Oberoi is a freelance finance writer based in India. he has completed his MBA with finance as majors and also holds a CFA charter. He has over 13 years of experience in financial markets. He has been writing extensively on global markets for the last six years and has written over 6,500 articles. He mainly covers metals, electric vehicles, asset managers, and other macroeconomic news. He also loves writing on personal finance and topics related to valuation.