Equity View: JETS Needs a Long Runway

Summary

• Airlines have been a bright spot during Q2 earnings season. They are posting solid beats and report booming demand for air travel for the foreseeable future.
• Yet the airline-oriented JETS ETF is still trading 45% below its pre-Covid level.
• The Airline industry took massive losses during Covid lockdowns and still face rising labour costs, a hangover from high fuel prices last year, and ongoing weather-related problems.
• Analysts estimate it will take more than two years for earnings and JETS to fully recover to pre-Covid levels.
• Another issue for investors is that JETS is not a pure-play airline ETF – it also holds global aerospace, airport infrastructure and hotel equities. But an index of US airlines has closely tracked JETS over the past six years.

Market Implications

• We think JETS can outperform the S&P 500 over the next year or so, and the airline industry recovery could go faster than analysts project.
• But bottom line, investors must have a patient buy-and-hold mindset and confidence that the recovery remains on track.

Airlines Are Gaining Runway Speed…

Airlines have been a bright spot so far in Q2 earnings season. Delta Airlines (DAL) reported earnings per share 11.7% higher than expected and said it expects revenue to grow 11-15% vs consensus 6.5% growth. United Airlines (UAL) beat EPS consensus forecast by 25% and projects growth some 20% higher than consensus. American Airlines reported similar blockbuster results.

Over the past year, people have clearly shifted discretionary spending from goods to experiences as Covid restrictions were lifted, and flying is part of the package. If airline outlooks are indicative, that trend will continue for the foreseeable future.

Yet, airline stocks and the airline ETF JETS are still limping along relative to the broader market (Chart 1). What gives?

…But Have Yet to Gain Altitude

The simple answer is earnings (Chart 2). Yes, earnings are on the upswing. But, whether at the level of JETS or individual airlines, earnings are still well below pre-2020 (pre-Covid) levels. After steep losses during lockdowns, JETS earnings only recently passed 2015 levels. Individual airline earnings are also well below pre-Covid levels.

Despite rosy forecasts of strong demand, the airline industry remains in a deep hole due to losses incurred during Covid lockdowns, high fuel prices last year, labour shortages, and weather-related delays.

Analysts project JETS needs 2-3 years for earnings to fully recover to pre-Covid levels – and that assumes the economy remains in recovery mode.

Is JETS a Good Investment?

The answer quite simply is ‘maybe’ – investors must understand what they are buying and be view it as a patient buy-and-hold investment.

JETS is marketed as a pure play on the airline industry. Broadly speaking, it is. But it is hardly a pure play on airlines let alone US airlines in particular.

It holds equities in 50 companies, including US and non-US airlines, aerospace companies (including Boeing and Airbus), hotel/leisure companies, and airport infrastructure (Table 1). Airlines are less than 30% of the ETF – and US airlines are only half of that. See the Appendix for a full list of JETS members.

Investors in JETS must recognize the many moving parts in this ETF that are somewhat removed from airlines. That said, we constructed a marketcap-weighted index of US airline stocks since inception of JETS, finding that to date US airlines have tracked JETS very closely (Chart 1). This relationship may break down in the future.

JETS tracks the JETSX index closely[1]. However, the outstanding balance of JETS is only $1.8bn, a scant 0.02% of the index market cap of $868bn. Investors should be aware that JETS is small and will likely have liquidity issues in any sudden rally or selloff.

We have been proponents of JETS since late 2021, when the reopening trade gained momentum. It has moved sideways relative to the S&P 500 since then and lost ground in recent months due to the tech rally.

JETS Is Still a Hold

We continue to hold JETS but now view it as a patient buy-and-hold investment. A long as consumers continue to gravitate toward air travel, the industry should continue to recover, and there is the prospect that earnings – and equities – could recover more rapidly than analysts now project.

[1] The Bloomberg ticker is JETSX Index <GO>.

Over a 30-year career as a sell side analyst, John covered the structured finance and credit markets before serving as a corporate market strategist. In recent years, he has moved into a global strategist role.

(The commentary contained in the above article does not constitute an offer or a solicitation, or a recommendation to implement or liquidate an investment or to carry out any other transaction. It should not be used as a basis for any investment decision or other decision. Any investment decision should be based on appropriate professional advice specific to your needs.)