Airline stocks surged Tuesday on news that an analyst has raised price targets within the group on expectations of lower fuel costs in 2006. Continental Airlines
Does that mean it's time to buy airline stocks? Let's look at one, AMR, America's largest airline, and see why this observer sees little reason to get excited.
This is an odd time to be talking about buying the airline stocks. The peak Thanksgiving-to-New Year's travel season is about to close, and the lowly winter travel season is about to begin. What's more, large carriers including Delta, Northwest, and United parent UAL are all in bankruptcy, restructuring their debts and operations in an effort to emerge as more competitive airlines.
Nor is this an industry where investors can talk about their long-term winners among the majors unless they have owned Southwest Airlines
It is true that AMR has made a fantastic gain over the last two-and-a-half years. If they held on to their shares, the brave souls who parted with their cash when bankruptcy rumors were circulating in March 2003 are humming all the way to the bank today. AMR is almost a 19-bagger from its $1.25 low to today's $23.53 high.
So there is some reason for optimism. AMR's fourth-quarter consolidated revenue is expected to increase 12.8% to 13.8% thanks to rising monthly passenger load factors and higher ticket prices (which, in turn, have been caused by higher fuel prices). The company expects cash on the books to increase by $600 million from last quarter to $4 billion. And fuel costs, the Achilles' heel that has hurt airline earnings, are falling. AMR paid $2.32 per gallon for jet fuel in October, and it projects that its fuel cost will be $1.78 per gallon in December.
So, what is there not to be optimistic about? First, AMR is selling for 46.2 times analysts' expected 2006 earnings. Why pay a premium to earnings for AMR and its net debt (debt minus cash) of $10.8 billion when Southwest, a profitable airline with a net cash position of $600 million, trades for 24 times 2006 earnings?
Next, this is still the competitive airline industry. There is great uncertainty about what a restructured United, Delta, and Northwest will bring. There is also Virgin America waiting in the wings to sell discounted seats on new jets out of its San Francisco home base. This is a commodity business that, in a sharp economic downturn, can produce ugly business results without having to compete against airlines that have had their debt loads greatly reduced.
Finally, don't rule out the chance that the discounters are getting more efficient. Motley Fool Stock Advisor recommendation JetBlue
So add it up. Results at AMR are improving, yes, but the stock is not value-priced, given that the competitive picture is not clear and at least one discounter is trying to trim prices even more.
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