Why Airline Stocks Were Flying High In Wednesday's Trading

Wednesday, Dec. 7 brought huge smiles on the faces of investors as the main indexes touched record highs. The S&P 500 Index ended the trading session at a record high of 2,241.35, up 1.32%. The Dow Jones industrial average also touched an all-time high, ending the day at 19,549.62, up 1.55%.

Moreover, the Dow Jones Transportation Average – a price-weighted average of 20 U.S. transportation securities – ended the day 2.54% higher, closing at 9,371.61. The index includes railroads, truckers, marine transportation, delivery services and logistics companies, apart from airlines. Hence, the Dow Jones Transportation Average Index can easily be deemed the true representative of the U.S. transportation division.

According to the Dow Theory, the Dow Jones Industrial Average governs the movement of the Dow Jones Transportation Average in normal market conditions. In the event of the industrial average scaling a new high, transports must follow suit.

The Dow Jones Transportation Average Index includes six airline stocks – Delta Air Lines, Inc. (NYSE:DAL) , United Continental Holdings (NYSE:UAL) , American Airlines Group (NASDAQ:AAL) , JetBlue Airways Corp. (NASDAQ:JBLU) , Alaska Air Group (NYSE:ALK) and Southwest Airlines (NYSE:LUV) .

With the Dow Jones Transportation Average Index performing exceptionally well, it was no surprise that airlines had a field day. Shares of all the airline companies present in the Dow Jones Transportation Average Index gained on Dec 7. The impressive performance resulted in the NYSE ARCA Airline Index gaining 2.53% to close Wednesday’s trading session at $110.79. Additionally, the 33-member U.S. Global Jets ETF (KL:JETS) , which provides exposure to the global airline industry, gained 2.79% on Dec 7, ending the day at $28.41.

Catalysts for the Surge

The encouraging November traffic report unveiled by Dallas-based Southwest Airlines was one of the main reasons behind the significant gains posted by airline stocks on Dec7. The carrier’s November traffic (measured in terms of revenue passenger miles) increased 7.2%, while capacity (available seat miles) expanded 4.9%, both on a year-over-year basis.

Another important metric, load factor – percentage of seats filled by passengers – climbed 180 basis points to 85.1% as traffic growth outpaced capacity expansion. Interestingly, this is the highest ever load factor recorded by the carrier in the month of December. Backed by the impressive traffic report, shares of Southwest Airlines ended the trading session on Dec 7, at 49.85, up 4.55%. Southwest Airlines still projects that operating revenue per ASM (RASM: a key measure of unit revenue) will decline in the band of 4–5% in the fourth quarter of 2016.

Another favorable development in the airline space in recent times is the proposed takeover of low-cost carrier Virgin America by the Seattle, WA-based Alaska Air Group, which gained 3.38% on Dec 7. Alaska Air Group intends to close the merger “in the very near future” following the much-awaited clearance from the U.S. Department of Justice and the subsequent settlement of the consumer lawsuit against the tie-up. Successful closure of the deal would result in the creation of the fifth-largest airline in the U.S. (in terms of passenger traffic).

Recent Rebound in Airlines

We note that it was not only on Dec 7, that airline stocks performed well. In fact, stocks in the space have been outperforming over the last couple months despite multiple headwinds. The recent improvement in performance can be gauged from the fact that the Zacks categorized Transportation-Airline industry has outpaced the iShares Dow Jones Transportation Average Fund IYT over the last two months. The ETF, which provides exposure to the broad transportation sector by tracking the Dow Jones Transportation Average Index, has gained 16.65% while the Transportation-Airline industry has appreciated 17.54% in the period.

It is no secret that airline stocks have been hurt by unit revenue issues for quite some time. However, the circumstances seem to be changing for the better as most carriers are coming out with improved forecasts for RASM in the fourth quarter of 2016. The most recent bullish RASM view came from Hawaiian Holdings (NASDAQ:HA) .

The carrier now expects fourth-quarter RASM to grow in the range of 3% to 6%. Earlier, the company had anticipated an increase of 0.5% to 3.5%. Hawaiian Holdings sports a Zacks Rank #1 (Strong Buy). You can see the complete list of today’s Zacks #1 Rank stocks here.

Also, fears related to overcapacity have been plaguing airline investors for quite some time. However, the bullish capacity-related updates recently provided by several carriers are putting to rest such fears. The Thanksgiving travel rush further indicates the strong demand for air travel.

The improving scenario for the airline industry can be further gauged by fact that the current Zacks Industry Rank of 93 (among more than 260 groups) for the Transportation-Airline division is much more favorable than the 200+ rank carried couple of months ago.

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