Low crude oil, demand growth drives global airline profitability (Part 6 of 10)
Slowdown in premium travel
Growth in premium travel is positive for yield and revenue. In 2013 and in the beginning of 2014, premium travel expanded at a faster pace than economy travel. However, in recent months, premium travel has slowed down.
According to IATA (or the International Air Transport Association), October premium travel grew by 2.9%, slower than the growth of 3.7% recorded for economy seats. Long-haul markets actually drive the largest share of premium markets, which slowed despite the growth in international air travel being stronger in October (3.6%) than in September (2.3%).
Yield
Yield, or average price paid per passenger per mile, is an important factor that determines the growth of airline revenue apart from passenger traffic. Fares charged by the airlines vary according to seat class. Premium seats are priced higher compared to economy seats, yielding higher revenue. Business travelers are less price sensitive and generally opt for premium class, while passengers traveling for leisure typically use economy class.
Economic confidence
Major factors that drive demand for premium travel include world trade growth, global financial market performance, and rising business confidence. Business confidence, the leading indicator of trade activity and demand for business-related travel, has not shown improvement in the second half of the year. Plus, key economies have slowed down, as China’s services and manufacturing industry remains weak. In the Eurozone, decline in economic activity is expected in France and Italy. Growth is also expected to slow down in US.
In the US, legacy carriers including Delta (DAL), American (AAL), United (UAL, and Alaska (ALK) are able to provide longer-haul routes. They derive more premium revenue compared to low-cost airlines, which provide mostly short-haul routes. Southwest (LUV) only recently started routes to international markets.
ETFs such as the iShares Transportation Average ETF (IYT) and the SPDR S&P Transportation ETF (XTN) hold 35% to 40% of their holdings in US airline stocks.
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