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  1. Home
  2. / Investing
  3. / Energy

2 Reasons Airlines Are Unaffected by Oil Production Freeze

Despite a reported meeting between Saudi Arabia, Russia and two OPEC members this week that may freeze oil production at January levels, the major U.S. airlines encountered little turbulence in the prospect of higher fuel costs.
By JAMES PASSERI Feb 16, 2016 | 10:58 AM EST
Stocks quotes in this article: AAL, UAL, DAL

Despite a reported meeting between Saudi Arabia, Russia and two OPEC members this week, which appears to have resulted in maintaining oil production at January levels, the major U.S. airlines encountered little turbulence.

That's largely because such a freeze is unlikely to meaningfully increase global prices of crude, and also because the Big Four -- which includes American (AAL), United (UAL), Delta (DAL) and Southwest (LUV) -- have already been hammered in 2016, in part due to Wall Street pricing in the prospects of a market appreciation of crude oil.

And although the Big Four all booked substantial gains since crude began tanking in mid-2014 -- ushering in a 72% decline -- Wall Street has long been asking how much longer prices can bob around $30 a barrel. (And according to Reuters, this week's meeting, which included cartel members Qatar and Venezuela, potentially could signal the start of an organized approach to pare down the glut.) 

On Tuesday morning, the S&P 500 ticked up 1%, and the big U.S. airline stocks acted roughly in line: Southwest and Delta rose 1.5% and 1%, respectively, and American and United each fell 1%.

One reason for the steady trading, as Jim Cramer noted in Real Money, is that a production freeze to January levels is unlikely to meaningfully increase oil prices.

"They are obviously more than meeting demand at these levels, and they are locking in levels that more than meet demand," Cramer wrote. "How in heck does that not put a lid on oil and ensure that it will go lower over time as Iraq and Iran go over the top?

Another reason is that much of the risk that oil will normalize above its sub-$30 levels this year is inherent in the airlines' relative declines over the past three months -- most notably a 21% dip at Southwest, followed by a 18% decline at United, which has somewhat provided insulation against price spikes like Monday.

"Even with our modestly negative estimate and price-target revisions, barring any demand surprises, we still see meaningful upside across the airlines as noted above, particularly since stocks are down about 15% year-to-date," Morgan Stanley (MS) analysts in a Monday investment note. "However, the lack of visibility into the macro environment lowers near-term conviction -- given potential implications to demand, which do not appear to be subsiding anytime soon."

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TAGS: Investing | U.S. Equity | Energy | Transportation

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