Airline Stocks Set Up For A Great 2015, If They Hedge Wisely

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Airlines

For a company that filed for bankruptcy only 10 years ago, Delta (NYSE:DAL) sure had one heck of a year. Up 82% this year, Delta had an especially strong boost since October, up 50% since October 13th. Not only are its revenues growing but its cost of business is falling fast thanks, of course, to the falling price of oil which directly impacts its fuel costs. Fuel costs are Delta’s biggest expense.

According to its last 10Q filed October 24, a 20% drop in the cost of fuel would result in a $2.53B gain and an $850M loss in hedging costs, netting a $1.68B gain. Oil has actually fallen 35% since that date. Extrapolating out, that translates to around a $4.5B gain, though with much larger hedging losses on paper. Since Delta’s derivative fuel contracts expire in 2016, paper losses could recover if oil recovers by then. If not, the net gain is still far bigger than the hedging loss.

Delta is by far not the only airline to be celebrating falling fuel costs. Southwest (NYSE:LUV) has been on a continuous parabolic ascent since October 2012, up 376%, with its bottom line just getting better and better. In 2014 alone, its stock rose 125%. Revenues look set to beat annual records while its cost of revenue remains muted.

Even Jetblue (NASDAQ:JBLU), which has been a consistently poor performer since 2006, is now back at its highs with net income doubling since 2012. American Airlines (NASDAQ:AAL) only came out of bankruptcy at the end of last year, with its stock up over 100% since.

Falling oil prices are certainly doing their part for all these airlines, but the key to success in 2015 will be hedging well for a strong oil recovery if it should happen. If oil prices head back up, the airlines now complacent with low fuel costs will be caught with their proverbial pants down.

Watch for the airlines that hedge well now, with oil at multi-year lows. Call contracts on crude oil are especially cheap now, which means the smartest airlines can hedge now for an upside move at bargain basement prices for these derivatives and lock in current jet fuel rates. Whoever decides to make that move will be in a much safer position if and when prices start to rise, not only for jet fuel, but for everything else as well.

Pay close attention to airline filings going into 2015, and keep your eyes peeled for the ones that protect themselves now. The downside from hedging now for airlines in the event that oil stays low is very small compared to the upside if oil makes a rebound.

 

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