Will Bernanke Burst the Airline Stock Bubble?
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Goldman Sachs recently issued a Sell Rating for both United-Continental Airlines (NYSE: UAL) and Delta Air Lines (NYSE: DAL). This is long overdue as airline stocks are in a bubble, with US Airways (NYSE: LCC) tripling since last November based mostly on its ability to buy American Airlines out of bankruptcy. If Federal Reserve Chairman Ben Bernanke announces Quantitative Easing 3 at the Jackson Hole economic summit in August, as he did with Quantitative Easing 2 back in 2010, airline stocks will nosedive again.
It has been a good year for the share prices of major airline stocks. United-Continental, the world's biggest air carrier, is up 27.93% for 2012. Year to date, Delta Air Lines has risen by 33.75%. Over the same period, Republic Airways (NASDAQ: RJET) has jumped by 65%. Since January 1, US Airways has soared by 185%.
The underlying economic and financial fundamentals do not support the share price increases, which creates the bubble for airline stocks. Delta Air Lines is losing money with a negative profit margin of 28.06%. The profit margin for United Airlines is tiny at just 0.86%. Yet, both United Airlines and Delta Air Lines are also carrying heavy debt loads. The Selling rating of Goldman Sachs for each is certainly justified.
US Airways and Republic Airways have surged in price, in large part, for reasons having nothing to do with the performance of the company. US Airways is up so much as the expected acquisition of American Airlines is supposed to invigorate the company as it competes with United-Continental and Delta Air Lines as full service carriers. Republic Airways has risen on the announcement it would sell Frontier Airlines last year. As no buyers have been found, Republic Airways increased in share value when it announced earlier this year that it would consider a spin-off of Frontier Airlines.
One of the reasons cited by Goldman Sachs for the selling ratings for United-Continental and Delta Air Lines was future fuel price increases. As this is about 30-40% of the operating costs of an airline, rising prices can be devastating. If Federal Reserve Chairman Ben Bernanke introduces Quantitative Easing 3 or a similar measure to stimulate the economy soon, fuel prices will rise....and airline stocks will plummet....just as happened from 2010 to 2011, over the course of Quantitative Easing 2.
Quantitative Easing 2 consisted of the Federal Reserve financing the US budget deficit through buying about $700 billion in US Treasury bonds from November 2010 through June 2011 by inflating its balance sheet with an accounting mechanism. As a result, the US Dollar fell greatly in value as investors sold it to buy commodities such as oil. During the period of Quantive Easing 2, the UUP fell from about $26 a share to $21. Over the same time span, the exchange traded fund for oil, United States Oil (NYSEMKT:USO), rose from about $32 to $46 a share.
The airline industry was crushed by the spike in oil prices. The exchange traded fund for the airline industry, Guggenheim Airlines, went from the low $40s to the low $20s over the course of Quantitative Easing 2. United-Continental fell from around $30 to about $16 a share. Delta Air Lines nosedived from over $14 to under $7. US Airways dropped from about $10 to around $4. Republic Airways went from over $9 a share to under $2.
There will be a similar collapse in the share prices of airline stocks and exchange traded funds should Federal Reserve Chairman Ben Bernanke initiate any new stimulate measures. Already there is a bubble in airline stocks due to the basic economic fundamentals of the industry. Should Quantitative Easing 3 be introduced, speculators will join in to profit from the rising price of oil and the falling US Dollar. The result will be losses for those long on airline stocks.
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