The Hidden Way Basic Economy Airfares Mess Up Flights For Everyone

Airline companies have been plagued by the issue of declining airfares for quite some time. What is worse is that the fears show no signs of mitigating. The dismal state of affairs is further evidenced by the November reading on airfares.

What the Data Says

According to data released by the Bureau of Transportation Services, average airfares (adjusted) in the US in November fell 1.3% from the comparable figure in October. The November reading followed the 2.2% month-over-month decline in October. Moreover, airfares decreased 6.6% (unadjusted) in Nov 2016 on a year-over-year basis.

Airfares have fallen in almost every month in 2016, with the decline in July being the sharpest in over a year. According to research firm Hopper, airfares (domestic roundtrip) are predicted to hit a low of $211 in Jan 2017.

Factors for Declining Airfares

Despite the recent surge in oil prices, courtesy of the decision of the Organization of Petroleum Exporting Countries (or OPEC) to curb production, the commodity is still trading at around $54 a barrel. The level is way below the over $100 a barrel mark witnessed in mid 2014. Soft oil prices are being cited as one of the main reasons for declining airfares. Apart from cheap oil, intense competition in key markets – mainly among low-cost carriers – has contributed to the decrease in airfares.

Growth of low-cost carriers like Spirit Airlines SAVE and Southwest Airlines LUV has intensified competition for legacy carriers like American Airlines Group AAL and Delta Air Lines DAL. In a price-conscious economy, it is not just the survival of the fittest but also the cheapest. The graveness of the issue became even more glaring when United Continental Holdings UAL recently announced the introduction of “Basic Economy Fares” to attract more budget-conscious passengers.

Surging capacity is also one of the reasons behind the continuous decline in airfares. The forecast by the International Air Transport Association (IATA) for 2017 profitability shows that capacity woes are far from over. The report states that capacity is projected to rise by 5.6% in 2017, well above the estimated traffic growth of 5.1%. Load factor (percentage of seats filled by passengers) for 2017 is expected to decline 40 basis points to 79.8% as capacity expansion is likely to outweigh traffic growth. Moreover, IATA has revealed that capacity growth (6.3%) across the globe outpaced the demand for air travel (5.8%) in October.

PRASM – An Important Metric

Investors in the airline space keep a close eye on a company’s performance with respect to PRASM (passenger revenues per available seat miles: a key measure of unit revenue) as it measures sales relative to capacity for a carrier. Declining air fares coupled with capacity overexpansion have been hurting this metric, causing it to decrease for quite some time in the airline space.

Despite recent favorable updates on RASM (operating revenue per available seat miles) from the likes of American Airlines and JetBlue Airways JBLU, we note that the metric is still contracting. In fact, Hawaiian Holdings HA was the only U.S. carrier to report RASM growth in the third quarter. The trend is likely to continue in the fourth quarter. RASM at the Hawaii-based carrier is projected to grow in the range of 3–6%.

Hawaiian Holdings sports a Zacks Rank # 1 (Strong Buy). You can see

the complete list of today’s Zacks #1 Rank stocks here.

Conclusion

While low air fares are favorable for fliers, it is likely to hurt the top line of airline companies, thereby resulting in lesser profits. Declining air fares has been one of the main reasons behind the Zacks categorized Transportation-Airline industry lagging the coveted S&P 500 Index so far this year. While the airline industry has gained 7.97%, the S&P 500 Index has advanced 15.52%.

However, oil prices have been rising of late, leading to the tepid IATA forecast for 2017. Rising fuel costs would provide further scope to raise ticket prices, thereby boosting revenues. Investors interested in the airline space would keenly await to see if airfares rise in the coming year.

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Source : https://finance.yahoo.com/news/airfares-continue-decline-awaits-airlines-222210045.html