Are Oil Prices Affecting Airlines Companies?
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The recent rise in oil prices raises concerns that it will reflect in airline ticket prices and, in turn, eventually affect major airlines companies' stocks. Up until now major airlines haven't performed well and continue to struggle. But did the recent rally in oil prices adversely affect major airlines companies? If not, what could be the reason for the low impact jet fuel, one of major inputs of an airlines company, has on the profits of major airlines companies?
Oil and Airlines Companies
Despite the strong effect the prices of oil tend to have on airlines tickets, the fluctuations in oil prices don’t seem to affect the stock prices of airlines companies. Since oil is among the major inputs for an Airline – for a typical airline, jet fuel accounts for nearly 30% of its total expenditure – a rise in oil prices should have affected airlines companies’ financial performance, which should have reflected in their stock prices. In reality there seems to be little effect.
As an example, during 2012, the correlation between oil prices and Delta Air Lines Inc. (NYSE: DAL) is -0.04, which means no correlation. It seems that the price of an input tends to have a lesser effect on a certain company’s stock than the price of its product has. This isn’t too surprising and is a common phenomenon: the changes in coffee prices , a significant input, aren’t affecting much the stock price of Starbucks Corporation, while the price of oil has a very strong effect on the stock price of BP.
There are also additional changes in the airlines industry that could mean the effect oil prices has on the Airline tickets will further decline, which will make the effect oil prices have on an Airline company’s bottom line will further weaken.
Oil prices are strongly linked with the prices of Jet fuel, which may have had some effect on the ticket prices. But there are some other factors to consider with respect to Jet Fuel: the premium of Jet fuel over oil prices is something that may have had a significant effect on the ticket price in the past. This was the case last year when the premium hiked due to the war in Libya and rise in demand for flights after the tsunami in Japan.
The chart below shows the development of the Jet fuel premium in recent years. This year the premium, which is affected, among other reasons, by the supply and demand for fuel, didn't rise as it did last year.
Delta has recently purchased the Phillips 66 Trainer refiner and plans to increase this refinery's jet fuel yield to 32%. Currently the average jet fuel yield for refineries in the U.S is nearly 11%. If more companies will move towards this path, it could help airlines companies cut costs and reduce the effect of oil prices have on ticket prices.
There is also a decline in consumption due to the increase in fuel efficiency engines.
All these factors are reducing the share of oil prices on the ticket prices and in turn on the profit margins.
S&P500 and Airlines Companies
How did major airlines do compared to the U.S market? As a comparison, let’s compare one of the leading Airline companies, Delta airlines , to the S&P500. As seen in the chart below, during the year (UTD) the company has outperformed the S&P500; the company’s stock volatility was also much higher than S&P500, partly due to the company’s low stock prices. Keep in mind that the linear between the stock price and the S&P500 daily percent reached 0.48 (during 2012). And under certain assumptions, nearly 23% of Delta Airline’s volatility could be explained by the changes in S&P500. During 2012 the company’s stock rose by 12.8% – despite Delta’s recent fall on account of its losses in the second quarter of 2012. This means that almost a quarter of Delta’s rally could be due to the rise in S&P500.
As seen in the chart above, other airlines companies haven’t done better: the stock of Ryanair Holdings plc (NASDAQ: RYAAY) rose by 6.4%. The stock of United Continental Holdings, Inc. (NYSE: UAL) declined during the year by 5.3%.
The financial results of these airlines companies also didn't perform well during the second quarter of 2012. Further, Delta's operational profitability was the lowest of the three major airlines: the operational profitability of Continental reached 5.8%; the operational profitability of Ryanair, 7.7%; the operational profitability of Delta, 1.4%. In regards to Ryanair there is also an analysis at Motley Fool about the plunge in the company's profits during Q2 2012.
The Bottom line
The rally of oil prices is probably not helping airlines as it forces them to raise ticket prices that could adversely affect the demand. But the rally of oil prices aren’t too damaging to airlines company’s stocks or financial results. As long as the industry will improve the refinery process of Jet fuel, jet engines will consume fuel more efficiently, and the jet fuel premium will remain low, I suspect oil will have a lesser effect on the Airline industry.
For further Reading:
Will Oil Prices break the $100 mark?
Disclaimer: The author holds no positions in stocks mentioned and does not plan to initiate positions within 120 hours of the posting of this article. This article is to be used for educational, research and informational purposes only and does not constitute investment advice. There are no guarantees, expressed or implied, of future positive returns in regards to the subject matter contained herein. Understand the risks inherent in investing before making the decision to invest or consult an investment professional for more information. Reasonable due diligence has been performed in regards to the information in this article. However, the author expressly disclaims any liability for accidental omissions of information or errors in fact.
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