Air Canada (TSX:AC) stock crashed in 2020. Shares traded above $50 at the start of the year. Today, they’re priced at just $15.
The biggest challenge, of course, is the coronavirus. No sector has arguably been hit harder than airlines. Industry revenue is 95% lower than 2019 levels.
But airlines are famous for their boom-and-bust histories. Right now, we’re clearly in a bust cycle, but if you catch shares at the right time, you could make a fortune. From 2012 to 2019, for example, Air Canada stock rose 50 times in value!
Many investors think this is another chance to strike it rich. Before you jump in, make sure you understand some recent news. Few people are paying attention, but this is truly scary.
Air Canada is struggling
Warren Buffett hated airlines for nearly his entire career. He famously threw the industry under the bus any chance he got. His most important comment came in 1992, when he explained why investing in airlines was so hard.
“Investors have poured money into a bottomless pit, attracted by growth when they should have been repelled by it,” Buffett said.
This statement is perhaps the best summation of the industry’s troubles. The key is to focus on the word growth. Buffett isn’t necessarily talking about revenue or profit growth. He’s talking about supply growth.
For Air Canada to boost sales, it only has a few options. The first is to charge customers more, a difficult feat in a price-conscious market. The second is to fly their planes more, but there are only 24 hours in a day. The final option is to buy more planes. That’s the easiest and most popular route.
Buying more planes to expand is costly. And once the planes are purchased, they can have decade-long lives. That makes it easy for the industry to reach a level of over-supply. Industry revenues rise, forcing carriers to buy more planes, which pushes prices down, eliminating all of the benefits of expansion.
This back and forth has dominated airline stock prices for a long time. When the industry has too many planes, stock prices fall. When industry supply is tight, stock prices rise.
The worst just happened
Right now, passenger demand is way lower than 2019. That means there are way too many planes. The market is remarkably unbalanced, and unfortunately, many analysts think demand will be permanently smaller. That’ll create industry over-supply for another decade or more.
As Buffett warned, this is exactly the dynamic to avoid. It seems like Air Canada’s CEO agrees. Last month, he announced his retirement after 15 years at the helm. To make matters worse, he just revealed that he’ll join the board of directors at Bank of Nova Scotia, so it’s not like he wants to quit working altogether.
The reality is that every airline CEO is scared. They know the industry isn’t primed for a quick recovery. This will be messy work for years to come.
Air Canada’s CEO is quitting early, before major bankruptcies arrive in North America. You should also steer clear. The wait will simply be too long.
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This article represents the opinion of the writer, who may disagree with the “official” recommendation position of a Motley Fool premium service or advisor. We’re Motley! Questioning an investing thesis — even one of our own — helps us all think critically about investing and make decisions that help us become smarter, happier, and richer, so we sometimes publish articles that may not be in line with recommendations, rankings or other content.
Fool contributor Ryan Vanzo has no position in any stocks mentioned.