The airline industry has been one of the hardest hit sectors during the pandemic. But with travel restrictions easing globally, travel demand has bounced back. Anthony Okolie speaks to David Mau, Portfolio Manager, TD Asset Management, about his long-term outlook for the sector.
- Since the start of the COVID-19 crisis, the airline industry has been one of the hardest hit sectors as business and leisure travel ground to a halt. But with travel restrictions easing globally and travel demand on the rebound, can airlines finally be turning a corner?
Well, joining me today to talk more on this is David Mau. He's a portfolio manager at TD Asset Management. David, as I mentioned, countries around the world are starting to loosen travel restrictions and more people are booking leisure travel for the first time in months and even years. So the big question is, is now a great time or entry point for long-term investors looking for exposure to the airline industry?
- Hey, Tony. Yeah, so, look, listen, most airline stocks in the US are down somewhere between 20% to 40% from pre-COVID levels. Here in Canada, Air Canada is down more than 50% from its 2020 high. So you're absolutely right that people are starting to travel more, especially in the last few months as fears around the Omicron variant are starting to fade. But if we look at this chart that we have from the IATA showing actual air passenger travel traffic globally, we can see that actual passenger volumes are still down quite significantly and have a long way to go to recover to pre-COVID levels.
Now, we know that traffic varies depending on region. We know that North America has been stronger than most parts of the world. Europe has been OK. Asia has been facing some challenges. As we know, China has been having some recent difficulties with the COVID outbreaks there. But generally speaking, there is still a long road to recovery in terms of passenger travel globally.
So what this implies is that the airlines in general still have a lot of revenue and earnings growth in the coming years as these volumes pick back up. So I think as far as the airline stocks go, with them trading at still very reasonable valuation levels, now is a very good time to be looking at some of these names, especially for long-term investors who are going to be able to kind of ignore the shorter term fluctuations.
- Now, also recently, there's a new US Court order where they dropped the national mask mandate for plane travel. How big a deal is this decision for the US airline industry? And could we see more people flying now that they can remove their masks?
- Yeah, I mean, we saw that news come out last week. And it's probably too early to say exactly how big of a deal this will be. But we know that the airlines themselves were very supportive of removing this mask mandate. And I think it's generally positive for the airlines. Like you said, people who previously were unwilling or unable to travel because of having to wear a mask on a flight, those people can now start to plan trips.
The other good thing for airlines in general is that they no longer have to have their staff enforce these masks mandates on the planes, which we've seen can be difficult and disruptive at times. Now obviously, the flip side is there's going to be some passengers who are not going to be comfortable traveling on a plane where everyone's not wearing masks. But again, there's no rule against a person wearing a mask if they want to. So anyone who wants to can still wear a mask on their plane. So overall, it seems to me that this is generally a positive development for the airlines.
- OK, let's talk about the latest quarterly results from the US airlines. And more importantly, what's their outlook for the upcoming spring and very profitable summer months?
- Yeah, so, listen, I would characterize the first quarter results for the airlines as in line to generally a little bit better than expected. I mean, it was still a money losing quarter for the airlines, except the losses were a little bit less than what the market was expecting. Now, what's really more important, and as you alluded to, is the outlook that the companies gave for the second quarter, which is the summer travel season, which is typically the most important few months of the year for these airlines.
And the outlook that these companies gave were great. Many of the CEOs and companies are expecting the second quarter-- the volumes to actually exceed what they saw in 2019. So I think that reflects a lot of that pent-up demand from the general public who haven't been able to go anywhere for the last two years. The other big trend that we're seeing for the second quarter, what the companies talked about, is they plan on restricting capacity.
So what that means is they want to fly fewer flights. But each flight is going to be fuller. So I mean, that's great news for the airlines because it helps them on the profitability side, not so great if you're booking some travel this summer and hoping that the seat next to you is going to be empty.
- Now, certainly there seems to be some very positive trends for the airline industry. Now, let's talk about some of the challenges or some of the headwinds still facing the airline industry. What are some of the key challenges that you see for the airline industry going forward?
- Yeah, so I mean, the one thing that's affecting everyone and not just airlines is higher oil prices, right? I mean, higher oil prices means higher jet fuel costs for the airlines. And fuel costs for an airline typically is somewhere between 25% to 40% of the operating costs, depending on the age of the fleet that the airline is running. So newer planes tend to be more fuel efficient. So depending on the airline and its fleet, the higher fuel costs could have a bigger or smaller impact. So it would depend individually.
But the positive thing there is that fuel costs are generally a pass-through costs for the airlines. So as oil prices go up, airlines raise their ticket prices. So they'll pass that on to the traveler. And the good news is we haven't actually seen any, I guess, negative impacts to demand so far even as airlines have been raising their prices. So it looks like the demand is strong enough for the travelers or for the airlines to be able to pass these costs on. And so they won't actually be absorbed by the airlines themselves.
The other, I guess, headwind, and you mentioned this a little bit earlier, is business travel and international travel have been very slow to recover. So I mean, you could look at that as a headwind. I kind of see it as a tailwind because business travel, international travel are much higher margin. It's much more profitable for airlines. So as those things, those two segments come back over the next couple of years, it's going to have a greater impact on airline profitability than so far what we've seen in basically domestic economy has been the segment that has recovered the fastest. But that's also the lowest profitability.
- So given what we know today, when do you see airlines returning to pre-pandemic levels?
- Yeah, I mean, I don't have a crystal ball. But if we look at how this recovery has developed and what the actual companies are saying themselves, right now, it seems like the general kind of feeling is that we-- that the airline industry will get back to pre-COVID levels, so 2019 levels, sometime by around 2024, 2025. So we're talking about another two, maybe three years to get back to pre-pandemic levels.
- David, thank you very much for joining us.
- Thanks for having me.