We are cautious on U.S. airline stocks as we are concerned that several carriers may have over-promised on 2019 revenue (RASM), perhaps motivated by a need to justify another year of mid-single-digit capacity growth and late-cycle capex bloat within the context of slowing GDP expectations. Risk from here is that airline revenue follows fuel lower, as it often does, and we think the most likely outcome is that the airlines’ 2019 guidance, in aggregate, proves optimistic by summer when price-elastic consumers go on vacation and airlines use lower fuel to fund fare sales. While the Street has set up below guidance for some, and our 2019 EPS estimates are only ~3% below consensus on average, it’s difficult for us to find a good reason why the group should work as we also struggle to see what gets valuation multiples to re-rate higher from current historical average level.

Given the historical correlation of airline revenue with fuel, and other macro factors (GDP, inflation), we believe the group-wide outlook for 1.5-2% RASM growth in ‘19 is too aggressive a base case. Assuming the current consensus macro forecast holds up and fuel follows the strip, we’d peg their chances of hitting their ‘19 revenue/EPS guidance at ~25%.

While we are cautious on the group overall, we see opportunities to selectively own airline stocks whose 2019 EPS outlook presents the potential to exceed guidance midpoints and consensus expectations. These include top pick United (UAL), which provided a more conservative guide than the other large airlines, as well as Buy-rated Spirit (SAVE). We see potential for UAL to hit the midpoint of its 2020 EPS guidance range ($12.00) in 2019, and if it just hits its $11.00 2019 guidance midpoint, then AAL and DAL probably miss. Given the stronger dollar (y/y) we prefer the more domestic-oriented names over the legacies in general, hence our Buy ratings on LUV/ALGT/SAVE. In a rosier-than-expected outcome for industry revenue, we view AAL as the marginal name to own. In our base case, we see the most downside to EPS expectations at DAL in 2019, and JBLU on a two-year look.

Top Picks:

  • United Continental Holdings (UAL)
  • Southwest Airlines (LUV)
  • Allegiant Travel (ALGT)

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