Hobson: How Did BA Shares Avoid Disaster?

THE WEEK: Morningstar columnist Rodney Hobson questions how British Airways operator IAG avoided a mauling on the stock market

Rodney Hobson 2 June, 2017 | 12:11PM
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Those who wonder how increasingly heavy aircraft can defy gravity now have a greater conundrum to consider: How on earth did shares in International Consolidated Airlines (IAG) avoid dropping out of the skies after the disastrous bank holiday weekend for British Airways?

I cannot see any good reason to buy

It’s not just the substantial compensation claims, variously estimated at up to £150 million, plus the cost of processing them. It’s not just the one-off cost of untangling all the aircraft to get them back in the right places, a feat that not surprisingly took several days.

Far more important is the intangible damage to BA’s reputation. People were prepared to pay more for BA flights, rather than budget airlines, because BA was rock solid reliable. Who would you trust now for reliability: BA, Ryanair (RYA) or EasyJet (EZJ)?

How is it possible that, far from having any back-up when the computer froze, BA was unable to get its system working for several hours even after power had been restored. Not only does the computer freeze, the staff who are utterly reliant on it also freeze.

IAG will survive because of its dominant position in the UK, Spain and Ireland – though the latter is increasingly under threat from Ryanair. Its stranglehold on Heathrow in particular makes it hard to avoid for air travellers. It is, however, a dangerous policy to treat your customers with contempt, a lesson that Ryanair learnt to its advantage.

Because the London stock market was closed on Monday for the Bank Holiday, we looked to Spain, where IAG shares are also listed, for the crash that never came. IAG shares closed down only 2.5%, which I thought at first was a misprint for 25%. London on Tuesday confirmed this gross underreaction. Even more amazingly, the shares recovered some ground on Wednesday.

As regular readers know, I am not a great fan of airlines or holiday companies as an investment as their performance can be very up and down. I would not dream of investing in IAG at this stage and see any share price rise as an opportunity to get out.

Don’t be surprised if profits undershoot for some time to come, especially if costs continue to edge higher while revenues slide.

Which Airline to Invest In?

If you must pick an airline to invest in, at least consider Ryanair despite the 50% rise in its share price since last June, which admittedly factors in a lot of good news. Despite, or perhaps because of, a reduction in ticket prices, profits were up 6% in the year to March 31. Planes were 94% full on average. Ryanair figures are in euros, so the fall in the pound did not help.

While the outlook is unclear, Ryanair is cautiously hoping for an 8% improvement in profits in the current year. Since airlines tend to buy fuel in advance, it is still benefiting from falling fuel prices despite the recent uptick in crude oil. Congratulations to anyone who bought shares post-Referendum. There is no reason to take profits yet.

EasyJet shares have also been recovering of late though they have not done anything like as well over the past 10 months. Traffic figures for May are due on Tuesday and may provide a further boost but last month the airline reported a dramatically increased loss over the winter period despite carrying more passengers in more planes that were more full. Revenue per seat was down and will continue to slide.

Investors chose to overlook the bad news and to focus of the fact that the late Easter will provide a boost for the second half. Forward bookings are ahead of last year.

However, EasyJet remains vulnerable to uncertainty over Brexit and the value of the pound. I cannot see any good reason to buy.

The information contained within is for educational and informational purposes ONLY. It is not intended nor should it be considered an invitation or inducement to buy or sell a security or securities noted within nor should it be viewed as a communication intended to persuade or incite you to buy or sell security or securities noted within. Any commentary provided is the opinion of the author and should not be considered a personalised recommendation. The information contained within should not be a person's sole basis for making an investment decision. Please contact your financial professional before making an investment decision.

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About Author

Rodney Hobson

Rodney Hobson  is a columnist for Morningstar.co.uk and author of several investing books, including The Dividend Investor and How to Build a Share Portfolio.