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Seeking Higher Altitude

10 January 2014 in Trading Ideas

Any industry that expects 31% growth in its customers by 20171 is one that will turn the head of most investors.

But no, this isn’t some new technology craze – it’s one of the oldest of the old school: airlines.

Our new Taking Flight motif contains a portfolio of stocks of airlines, leasing firms and airport operators that could benefit from the projected rise in air traffic. Specifically, the International Air Transport Association expects a compounded annual growth rate by the world’s air carriers of 5.4% between 2013 and 2017, up from its rate of 4.3% in the wake of the financial crisis and recession that lingered between 2008 and 2012.2

By 2017, nearly 4 billion passengers will board flights.

It’s probably no surprise that the emerging economies of the Asia-Pacific and Middle East regions are projected to experience the highest annual growth during that period. In fact, routes within and connected to China are expected to be the single biggest driver in growth, supplying 24% of the growth of new passengers during the forecast period.

In the US, growth is expected to lag, growing at only 2.2% a year. However, the country still comprises the world’s largest market for domestic passengers. What’s more, North America will make up more than 40% of what’s expected to be a record profit of $19.7 billion for the world’s airlines in 2014.

Recent mergers of some of the world’s largest airlines have reduced route duplications and service costs, delivering more pricing power to airline operators. In the US alone, we’ve just seen the completion of the merger between American and US Air, which has created the world’s largest carrier. That deal has come on the heels of two others: the combinations of Delta/Northwest and United/Continental.

US carriers can also be expected to get a tailwind from any improvements in the US economy, according to the IATA’s chief economist.

In addition to mergers, other carriers have cut capacity on weaker services while looking for partnerships with former rivals to boost their exposure to their stronger markets.

The IATA warns that overcapacity is still an issue in air freight traffic, which is expected to slow to 3.2% annually in the coming years. Too much space on cargo planes is especially acute in Asia, the IATA says.

However, with expectations for record global profits in the offing, passenger growth may be enough carry the sector’s fortunes over the medium term.

1IATA press release, “Airlines Expect 31% Rise in Passenger Demand by 2017,” Dec. 10, 2013, http://www.iata.org/pressroom/pr/pages/2013-12-10-01.aspx, (accessed Jan. 7, 2013).

2Richard Weiss, “Airlines to Earn Record Profits Next Year as Mergers Pay Off,” Bloomberg.com, Dec. 12, 2013, http://www.bloomberg.com/news/2013-12-12/airlines-to-earn-record-profits-on-merger-payback-cheaper-fuel.html, (accessed Jan. 7, 2014).