"Investors have poured their money into airlines and airline manufacturers for 100 years with terrible results. It's been a death trap for investors," Warren Buffett once wrote after exiting his $358 billion US Airlines preferred in 1989.
"I overlooked the crucial point," he wrote in his 1996 investment letter. "USAir's revenues would increasingly feel the effects of an unregulated, fiercely-competitive market whereas its cost structure was a holdover from the days when regulation protected profits."
A little over a decade later, he noted that there is little competitive advantage, ever since the days of the Wright Brothers... "Indeed, if a farsighted capitalist had been present at Kitty Hawk, he would have done his successors a huge favor by shooting Orville down," he wrote in his 2007 letter.
So what gives that he now owns 21.7 million shares of American Airlines (AAL) , 6.3 million shares of Delta DAL and 4.5 million shares in United Continental (UAL) , plus an undisclosed stake in Southwest Air (LUV) , according to his most recent filings?
I'd say a lot has given, although I do want to first point out that many of these airline stocks were down about 20% not that long ago. For example, United Continental, which is up 9% for the year, was at $39 July 6 and it was at $62 before we read the news. Delta, which was still down 6% year to date, had advanced from $33 six months ago to $47. American has traveled from $25 to $43, and is up 2.5% year to date. And Southwest has moved from $3 to $45 and had advanced 5.3%.
So, once again, the standard warning has to be given out here that by the time you see the filings, it is often too late to capture the bottom. Still, these are well off their highs, with UAL at $73, American at $56 back in 2014, although Delta was at $52 and Southwest stood at $49 last year.
As usual, again, big moves had been made.
First of all, there have been big mergers, like the American and US Air and United and Continental that have vastly reduced competition. That was the anathema that Buffett hated. It is gone.
Second, after a brutal year when many new planes were added, all of the airlines are cutting back on their expansion plans for 2017. That last of new capacity is critical to pricing going forward and could lead to up years, something that makes it inconceivable that the average 3x of US Air, United Continental and Delta is about 8x -- although all up from 6x -- for next year. Southwest, always at a premium but apparently Buffett's smallest position in the group, trades at 12x. Traditionally, companies that see their earnings up year over year would get higher multiples.
Third: there is a dearth of narrow-body planes, which are the ones that make these airlines the most money. So even if they want to increase capacity, it is not easy for them to do so.
Fourth, fuel is their biggest variable, with jet fuel often taking up 25% of their costs. Perhaps Buffett feels we are in an era of permanently lower oil prices -- although, oddly, higher oil prices have often led to higher stock prices for the airlines, as higher oil prices signal further gains in economic activity.
Finally, if you think worldwide travel growth will resume from a lull, these are great investments. I know I have liked UAL ever since Oscar Munoz joined the airline as CEO, with the stock only a few points below where it closed last night; when he appeared recently on Mad Money he was upbeat about next year's prospects.
In short, the group represents value, the price wars are subsiding and the companies all make oodles of cash, the exact opposite situation from when Buffett invested last. Therefore, they've become quintessential Buffett stakes, with only one caveat: they were a heck of a lot lower when he started accumulating them. So invest now at your own risk.