Aviation stocks: Increase in crude oil prices could put pressure on growth

Increase in crude oil prices could put pressure on growth

Aviation stocks gained on Monday after posting another month of strong double-digit increase in passenger traffic (volumes), even as the market remains weak.
 

Airlines flew 11 million passengers in January, a 19.7 per cent increase over December 2017 and the year-ago period.

Strong growth and a moderate supply imply airlines such as Jet Airways, IndiGo and SpiceJet have reported load factors in the range of 89-95 per cent, improving their aircraft utilisation (load factor) and cost efficiencies.

Analysts expect higher load factors to sustain in the near term, led by increased demand and aircraft supply issues. IndiGo continues to face engine-related issues for its A320neo aircraft.

Improving demand and higher load factors should boost yields and pricing power for the sector (yield indicates average fare paid per mile per passenger).
 

In the December quarter, IndiGo and SpiceJet had reported an improvement of 6.3-8.8 per cent in yields. If this continues, revenue and operating profit growth could see an uptick.
 

Most analysts continue to remain bullish on SpiceJet, which reported load factor above 95 per cent in January. The airline has reported over 90 per cent load factor for 34 months in a row.

Vishal Rampuria of HDFC Securities is positive on SpiceJet, given its ability to maintain a high load factor and its focus on cost. Addition of new-generation aircraft could further lower costs.

While analysts are also positive on IndiGo, the recent engine issues could affect its expansion and market share gains.

Given the uncertainty over aircraft delivery, IndiGo depends on secondary market leases, which have higher ownership costs as they are old. While the company is expected to be compensated for engine issues, analysts at SBICAP Securities said given the lead times in such leases, any significant delay in inducting the A320neos could force IndiGo to wait longer to recoup its lost market share.

Given the supply issues, the share price of IndiGo, trading at 17 times its FY19 earnings estimates, could come under pressure.

Jet Airways, which has embarked on a cost-cutting drive, should also benefit from rising domestic demand. Analysts at ICICI Securities said the cost benefits would be visible only in the second half of FY19. What adds to its benefit is increasing load factor and lower debt.

Nonetheless, given the 60 per cent gains since October and pressure on yields in international operations, investors can wait for a better entry point.

Oil price trends are another area to watch out for. Though Brent crude oil prices have corrected from their January highs, these are still trading at $65 a barrel and the outlook remains hawkish. A 5 per cent increase in oil prices can affect the earnings of airlines such as IndiGo by about 14 per cent, if costs are not passed on to customers, estimate analysts.