July was supposed to be when the recovery in air travel demand would accelerate. Just one month ago, airlines were experiencing strong sequential growth in passenger traffic and ticket sales. Disney World's theme parks were scheduled to reopen beginning on July 11, followed by Disneyland on July 17. The CDC's No Sail Order for cruise lines was set to expire a week later, on July 24.

Instead, with the COVID-19 pandemic spiraling out of control again, there has been only a muted recovery in leisure travel. And while Disney World did reopen, Disneyland remains closed indefinitely, and the No Sail Order was recently extended to at least Sept. 30.

Does this mean investors should sell airline stocks now? For some airlines, perhaps -- but in general, it's not quite that simple.

The pandemic is raging and air travel demand is falling

More than 60,000 new U.S. COVID-19 cases were reported every day last week, according to The New York Times. That compares to an average daily case count of around 21,000 in late May. Meanwhile, deaths from COVID-19 averaged 771 per day last week: well below the levels seen in mid-April, but up from around 500 per day in early July. Several states are running out of hospital beds or have full ICUs due to rising caseloads.

Not surprisingly, this has hurt air travel demand. First, many people who might have been eager to travel this summer are reconsidering whether it is safe enough to fly. Second, with some states delaying or reversing measures to reopen their economies (including tourist attractions), people have less reason to take vacation trips.

A Southwest Airlines plane landing on a runway

Image source: Southwest Airlines.

In an ominous sign for airlines, Delta Air Lines, United Airlines, and Southwest Airlines (NYSE:LUV) have warned very explicitly that demand is not recovering as quickly as they had hoped. Confirming this trend, the TSA reported on Monday that passenger throughput at its checkpoints averaged approximately 664,000 people per day during the week ended July 19: 25.5% of the prior-year level. A week earlier, throughput stood at 26.9% of 2019 levels.

Airlines have reduced cash burn

Notwithstanding the recent wobble in demand, airlines have dramatically reduced their cash burn in recent months. Most carriers have cut costs significantly, while the flood of refund requests has slowed compared to the early days of the pandemic.

For example, Alaska Air (NYSE:ALK) estimated late last month that cash burn had slowed from a peak of $400 million per month in March to just $150 million in June. Similarly, Southwest Airlines said last month that it expected daily core cash burn to average between $20 million and $25 million for the second quarter: better than its original outlook. Virtually all of their peers have reported some kind of similar sequential improvement.

Furthermore, many airlines have had success enticing employees to take buyouts or voluntary leaves of absence to reduce costs, particularly with the CARES Act payroll grants only running through September. For example, nearly 17,000 Southwest employees (about 28% of its workforce) have agreed to take buyouts or extended leaves of absence with partial pay. Alaska appears to have had similar success.

In a worst-case scenario, airlines can furlough excess staff until demand recovers. Doing so would also help to slow (but probably not stop) cash burn.

It's a waiting game

While the current statistics around COVID-19 -- and air travel -- are grim, there has been good news on the vaccine development front recently. Vaccine candidates from Moderna and Oxford delivered promising results in early studies. While there's no guarantee that either one will ultimately succeed in Phase 3 trials, it seems increasingly plausible that a vaccine could become available within a year or so. That would go a long way toward taming the pandemic and making people feel safe traveling by airplane again.

Thus, the real question for investors is which airlines have strong enough balance sheets to absorb near-term cash burn while exiting the pandemic with sufficient cash and manageable debt loads. This is where airlines like Southwest and Alaska really separate themselves from the pack.

As of mid-June, Southwest Airlines had $13.9 billion of cash on hand: approximately 62% of the carrier's 2019 revenue. That's also enough to cover nearly two years of cash burn at recent rates while still maintaining very reasonable debt levels. Alaska Air also has a very reasonable amount of debt and likely has around $3.7 billion of cash on hand now: 42% of 2019 revenue and enough to cover two years of cash burn based on the carrier's cash usage last month.

American Airlines and United Airlines have dramatically more debt, not to mention greater exposure to business travel and international markets, where demand may not recover as quickly. Selling those airline stocks might be prudent, given the balance sheet stress they could face from burning cash during a slow recovery. By contrast, investors in Southwest Airlines and Alaska Air need not worry about the pandemic's near-term trajectory. Both airlines trade at big discounts to pre-pandemic levels despite being well positioned to make full recoveries over the next few years.