You Deserve Some LUV

Few industry group stocks can give more wild up and down swings than airlines. Earnings per share can vary widely in the short-term, depending on weather, fuel prices and labor costs. That does not make them bad trading vehicles, though, if you are willing to buck the prevailing sentiment consensus. Southwest is known as one of the better operators in that volatile group. If current year estimates prove accurate, LUV will have posted solid 9-year growth across all major metrics since 2014. A recent tamping down of second half estimates due to reduced business class travel knocked Southwest down recently to a new 52-week low of $28. of $28.40. As of Monday, the stock was hovering at about $33.70. On a price-only basis LUV was reflecting only a fraction of the value created since the end of 2014. Even in a subdued 2023 EPS are expected to have risen by 52.4%, while dividends improved by greater than 227%. Book value nearly doubled over those nine years as well. Management also managed to retire about 12% of all outstanding shares via buybacks. Situations like this, where measurable value vastly diverges from share price action, typically sets the stage for substantial catch-up moves higher to arbitrage away that discrepancy. In the six pre-Covid years from 2014 through 2019 LUV, carried an average multiple of 13.9-times, accompanied by about 0.93% in current yield. Right now LUV sells for just 9.6-times Value Line's 2024 estimate while yielding 2.14%. Simply reverting to a more typical price-to-earnings could send LUV back up to north of $48 by the end of next year. Reverse engineering the current 72 cent annual dividend to 0.93% suggest $77 is not out of the question as a longer-term goal price. Those targets are far from crazy. LUV peaked between $43.20 and $66.99 during each of the nine calendar years from 2014 through 2022. Value Line sees EPS rising to a record $5.25 over the coming 3 to 5 years. There is plenty of upside potential on LUV from under $34. Yahoo Finance calls the shares undervalued. They see LUV hitting $41.68 again by this time next summer. I would call that a conservative goal as it implies just an 11.4-times multiple on its own 2024 EPS estimate of $3.66. Note, too, that weakness in 2022's second half results should make for extremely exciting year-over-year comparisons over the next few quarters. Research house Morningstar labels LUV as a 4-star, out of five, buy. Morningstar deigns to provide year-ahead goal prices but does let us know they see present-day fair value for LUV as $39. They do note that the stock's 52-week range includes a peak of $40.39. FastGraphs 2023 and 2024 EPS estimates for LUV are lower than those of most other research analysts. Using their more conservative projections a return to a normalized valuation could easily justify almost $44 per share by Dec. 31, 2024. LUV exceeded that target price during each of the eight years stretching from 2015 through 2022. Guru Focus' present-day fair value estimate for LUV sits at $60.66, with projected gains for LUV to hit $63.34 by year-end 2023 and $66.20 by December 31, 2024. Crunching the data on LUV has every research firm expecting nice gains from Southwest Airlines over time. The only unknown appears to be which of those services will be most accurate on their goal prices. Option minded traders might wish to consider shorting naked puts out to Jan. 17, 2025. Actual pricing on very conservative strikes of $30 and $35, with LUV at $33.37, are shown below. Worst-case, forced purchase prices would drop to either $26.85 or $29.85 depending on the strike price employed. Future stock market action can never be guaranteed. That said, owning LUV at the more aggressive $30 strike net if exercised price would have been a winning position for close to 99% of the time dating back more than three full years. The break-even price on the Jan. 2025, $30 puts would have been a winning position 100% of the time over the past three years. Reward far outweighs risk for those going long LUV around $33- $34. Buy some shares, short some naked puts, or consider doing both.

You Deserve Some LUV

Let's take a look at how to play Southwest Airlines.

Columnist Conversation

19 Trading Rules From 'Trader Vic'

Martin Zweig's Investment Rules

Bob Farrell's 10 Rules of Investing

COLUMNIST TWEETS

Please Join or Log In to manage and receive alerts.