Constrained capacity in the U.S. 

Carriers in the U.S. are grappling with an ongoing capacity crunch. “U.S. airline capacity continues to be trimmed. Based on current schedules, domestic capacity growth in the back half of the year is estimated to be a measly ~3.5%,” said Jamie Baker, U.S. Airline and Aircraft Leasing Equity Analyst at J.P. Morgan.

While many airlines are seeking to expand their fleet, aircraft manufacturers are experiencing supply chain issues and struggling to fulfill orders on time. In the first quarter of 2024, Boeing delivered just 83 aircraft — down from 130 in the first quarter of 2023. Rival Airbus delivered 142 aircraft, which fell short of its initial expectations for the quarter.

Against this backdrop, transatlantic travel remains strong, with U.S. consumers — buoyed by a strong dollar — flocking to destinations across Europe. Business travel is picking up too: Delta Air Lines recently reported that corporate bookings were up 14% in the first quarter of 2024. “Our prevailing thesis is that premium and international demand for air travel remain in the lead,” Baker said.

Airlines are also relying on a loyal customer base to drive revenue. In 2023, for example, around 65% of American Airlines’ revenue came from members of its AAdvantage frequent flyer program. “Loyalty programs continue to separate business models, paying outsized dividends for the Big Three — United Airlines, Delta Air Lines and American Airlines,” Baker said.

Softer prices for European airlines 

European airline stocks recently fell due to investor concerns around lower airfares. “The froth that was built up from the early bullish comments about summer pricing has unwound, leaving a high degree of uncertainty about the state of underlying demand amongst investors,” said Harry Gowers, Lead Analyst for European Airlines and Travel Retail at J.P. Morgan. For instance, Ryanair noted at the start of the year that peak summer fares could be +5–10% higher year-over-year, but subsequent comments suggest that 0–5% looks more likely.

On one hand, this could be a sign of inevitable pricing normalization for low-cost carriers. “In our view, peak summer short-haul pricing growth of +3–5% would be indicative of a normalizing but healthy environment, rather than a demand problem, and a solid result off the back of capacity growth and two very strong summers,” Gowers observed. Indeed, capacity for short-haul, intra-Europe flights is expected to increase by 6.9% in the third quarter of 2024 (excluding data from Russia, Ukraine and Belarus), suggesting that the supply-demand balance is not in favor of double-digit pricing growth.

However, if pricing turns negative, this would likely indicate a demand problem relative to supply — especially as some airlines noted consumer resistance to high airfares during their fourth-quarter earnings calls. “This may also call into question a structural shift in consumer spending propensity toward leisure travel, and lead to further underperformance for the sector from here,” Gowers said.

In the same vein, pricing for the second quarter of 2024 could prove softer than expected for network carriers due to capacity growth, a mixed demand backdrop and the impact of discounting by low-cost carriers. “This would come at a time when costs remain elevated for network carriers and general uncertainty over whether peak summer leisure demand will be strong enough to grow pricing in the third quarter of the year,” Gowers noted.

Indeed, lower airfares could prove problematic when combined with persistent cost pressures. Against an uncertain political backdrop, jet fuel prices, which make up roughly a third of airline expenses, remain high due to tight oil supply, although they have eased in recent months. In addition, wage costs are rising. “Overall, however, our base case is currently the first scenario, with little indication right now that peak summer pricing growth may come in negative for the either the low-cost carriers or network carriers,” Gowers added. 

Green shoots in China and across the wider Asia Pacific region

Post-pandemic, Chinese consumers continue to prefer vacationing in their home country. “China’s domestic flight activity has well outpaced 2019 levels, while international flight activity lags behind at 75% of pre-pandemic levels,” said Karen Li, Head of Hong Kong Equity Research and Head of Asia Infrastructure, Industrial & Transport Research at J.P. Morgan. “Chinese airlines are gaining notable market share, while foreign airlines have been slow to add flights to China.”

Despite this asymmetric recovery, J.P. Morgan Research sees positive fundamental drivers for the sector. Domestic passenger yield is poised to remain steady, while outbound tourism is expected to pick up in the coming months. “Chinese travel appetite remains intact, and many consumers will re-explore and seek out new international travel experiences. Overall, airlines expect international traffic to return to around 90% of 2019 levels for 2024,” Li observed. “In addition, tightening demand-supply dynamics should lend support to passenger yields and support an earnings rebound over the course of the 2024–2026 financial years.”

On a regional level, the outlook for the Asia Pacific airline industry is bullish thanks to a favorable supply-demand backdrop. In its latest biannual report, the International Air Transport Association (IATA) raised the industry’s 2024 profit outlook by ~18% in light of strong demand and higher airfares. Its longer-term forecasts also suggest Asia Pacific will experience the highest growth in demand for air travel globally, with a passenger CAGR of 5.3% over the next 20 years.

“The strength of Asia Pacific reflects the region’s expanding middle class across India, ASEAN and China — an interesting contrast to the current focus on China’s outbound travel and prevailing concerns over that part of the recovery post-reopening,” Li noted.