Across The Border

China’s airline stocks set to take off this summer as passenger numbers surge

Easing pressure from oil prices, yuan depreciation trigger strong demand for sector shares

PUBLISHED : Tuesday, 19 July, 2016, 3:33pm
UPDATED : Tuesday, 19 July, 2016, 10:32pm

Investors could probably expect a boom time from Chinese airline stocks, after the industry recorded a surge in passengers at the start of the summer travel season. As pressures from oil prices and yuan depreciation have both eased, analysts estimate the sector to take off this summer, thanks to robust tourism demand, consumption upgrading, and the opening of Shanghai Disney Resort.

The air transport sector in the A-shares market jumped 7.4 per cent last week, outperforming the 2.6 per cent gain in the large-cap CSI300 index. The biggest gainer is China Southern Airlines (CSA), which soared 12.3 per cent for the entire week. On Monday, shares of CSA rose further by 0.5 per cent to close at 8.47 yuan.

“We favour airlines in the coming quarter, as there are multiple drivers set to boost their earnings growth,” Xiaofeng Shen and Xin Yang, analysts from China International Capital Corp (CICC), said in a recent research note.

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Peak season demand will be a strong driver of earnings growth for airlines, they said.

China’s three biggest airline companies – Air China, China Eastern Airlines (CEA), and CSA – all posted strong passenger traffic growth in June. CEA’s revenue passenger kilometres (RPK) jumped the most by 18.5 per cent in June from a year earlier, followed by Air China’s 10.3 per cent and CSA’s 8.6 per cent.

In particular, international traffic growth accelerated for all three airlines. CEA saw a 43 per cent surge in international traffic for June, up from 33 per cent in the previous month. CSA and Air China also experienced a year-on-year growth of 30.6 per cent and 13.6 per cent respectively, up from 30.3 per cent and 9.8 per cent in May.

“The improvement in June is encouraging. It eases earlier concerns on travel slowdown,” Eric Lin and Tiffany Chen, analysts for UBS Securities, said in a separate report. “The positive momentum may continue into the summer, ” they added.

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Besides, the opening of the widely-anticipated Shanghai Disney Resort in mid-June is set to drive strong passenger flows to Shanghai and benefit related airline operators.

“Our conservative projection is 150 million to 200 million visits during the first year (to the Disney Resort),” said He Minliang , an analyst for Capital Securities. “In particular, we believe Shanghai-based China Eastern Airlines is going to profit from it, ” he said.

In the longer term, a structural demand shift may further boost the sector, as the rising Chinese middle class is spending an increasing share of their income on upgrading the quality of consumption, including travelling overseas, analysts said.

“The Chinese government has estimated the number of outbound trips per person to reach 4.5 in 2020, up from 2.8 in 2015. That means China is about to enter a golden age for tourism consumption upgrade,” said Qu Yongzhong, an analyst for Northeast Securities.

“Currently, only less than 10 per cent of Chinese people have passports. By the end of 2015, fewer than 30 countries have granted visa free or visa on arrival access to Chinese passport holders. However, as some Western countries like the US and Canada have recently eased visa access for Chinese visitors, we can expect a significant increase in overseas trips,” Qu said.

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Besides the strong demand, a continued slide in oil prices and a modest depreciation in the yuan could also help improve airlines’ financial status, analysts said.

In recent weeks, continued weakness in oil prices have sparked a rally in airline stocks. Crude futures fell Monday night, with the WTI crude down 1.6 per cent to settle at US$45.24 a barrel. So far in July, the US oil benchmark had retreated 5.4 per cent.

“We expect oil prices to stay low this year, approximately down 10 to 20 per cent from 2015. This would significantly reduce fuel costs for airline companies,” said He Minliang from Capital Securities.

In the meantime, pressures from yuan depreciation have also eased.

“The yuan has fallen sharply against the US dollar since last August, leading to a considerable loss for Chinese airline companies, which usually have high ratios of US dollar-denominated debt,” said Qu from Northeast Securities.

In particular, China Eastern Airlines suffered a foreign exchange loss of approximately 5 billion yuan (HK$5.8 billion) in 2015.

Nevertheless, analysts expect the yuan depreciation to be more modest this year.

He Minliang from Capital Securities forecast a 3 per cent to 4 per cent drop in the yuan’s value against the greenback this year, decelerating from a 6.1 per cent fall last year.

“Although pressures still exist, foreign exchange losses could be significantly lower for airlines,” he added.