Airlines have been hit hard by the pandemic, rising oil prices, the Russia-Ukraine war, and high interest rates. After three years, have North American airlines adjusted to the post-Covid world and high fuel prices?
Recently, Air Canada (TSX: AC) raised its 2023 adjusted earnings before interest, taxes, depreciation and amortization (EBITDA) guidance to $3.5-$4 billion (from $2-$3 billion). Investors are now wondering if May 2023 is the time to invest in airline stocks.
The challenges for airline stocks in 2023
Fuel cost is at the core, accounting for 30% of any airline’s expenses. Most North American airlines passed on the fuel cost to travelers, which helped some of them return to operating profits in 2022. Higher fares did not impact demand, and airline revenue rode the recovery path.
Despite operating profit, airlines have high debt they accumulated during the pandemic. The high-interest rate and the strengthening U.S. dollar are keeping profits stressed. The worst is behind for airlines, with fuel costs beginning to ease. But there is still a challenge of a looming recession.
High interest rates and inflation could reduce consumer demand. Until now, the airlines rode on higher revenue, but this growth could slow. If the demand slows due to the lower purchasing power of consumers, oil prices will cool, and that is what the Fed wants. When oil prices reduce, so will ticket prices, making airline travelling attractive. And that is how the extremes of supply and demand cycles will normalize. But all this could take two to three years.
International Air Transport Association (IATA) expects North American airline’s profits to increase to US$11.4 billion in 2023, driven by strong demand and lower oil prices.
Should you consider buying airline stocks in May 2023?
The industry has overcome its biggest crisis, which has altered the world of airlines. Small airlines might face sustainability issues in a recession, but big airlines might survive and recover with the economy. The 2008 Financial crisis saw a two-phase growth for airlines. Similar growth is likely in 2023, with the second phase of longer-term growth to begin later this year.
You can consider investing $500 of your Tax-Free Savings Account (TFSA) contribution room in two Canadian airline stocks.
Air Canada stock
Air Canada has revised its earnings outlook, expecting the U.S. dollar and fuel costs to be lower in 2023. It is tapping long-haul flights and high-margin cargo services to boost profits. The improvement has begun, but this growth might slow in a recession and could see another year of net loss. But the stock might rise on improving revenue.
Airline stocks are cyclical, and the growth cycle has started. The cyclical upturn could double or triple the share price in three to five years. There could be a few months of bearishness in the short term, but the risk of bankruptcy is averted. It means a dip will likely follow a delayed recovery. You can buy Air Canada stock while it trades below $22 and sell it when it crosses the $35 mark.
Cargojet airlines
Cargojet (TSX: CJT) is not immune to recession. A decline in consumer demand could pull down e-commerce volumes and reduce its revenue from cargo shipments. To reduce the impact of e-commerce seasonality, Cargojet gives its planes for Adhoc charter when not in use for cargo deliveries. The airline also offers ACMI (Aircraft, Crew, Maintenance and Insurance) at scheduled routes. ACMI has higher margins, as fuel costs, navigation, and landing fees are borne by the customer.
Cargojet can withstand a dip in e-commerce volume during a recession thanks to the multiple uses of its aircraft. Now is a good time to buy the stock as it trades closer to its 52-week low.
Investing tip
May 2023 is a good time to buy the above two Canadian airline stocks while they still trade at their lows. They could see more downside if the economy enters a recession. But a buy-and-hold strategy for five to seven years could double or triple your money.
