American Airlines: A Big Winner?

01/31/2013 7:00 am EST

Focus: STOCKS

Elliott Gue

Editor and Publisher, Energy and Income Advisor and Capitalist Times

Based on past performance, airline stocks deserve their reputation as terrible investments. Many operators have folded over the years, undone by burdensome cost structures and cutthroat competition, explains Elliott Gue, editor of Energy and Income Advisor.

And all three of the major full-service carriers operating today have declared bankruptcy at least once.

However, investors shouldn't overlook fundamental changes in the airline industry that have transformed these perennial losers into big winners.

And one value we see in the sector is American Airlines Group (AAL), which was formed after the merger of US Airways and AMR Corp, American Airlines' parent.

Based on the Bloomberg consensus estimate for 2014, American Airlines Group trades at 7.9 times forward earnings, compared to multiples of 10.2 for United Continental Holdings and 11.1 for Delta Air Lines.

This discount likely reflects concerns that the integration process may encounter difficulties. These risks appear overblown. The new management team, led by former US Airways CEO Doug Parker, has considerable experience integrating complex mergers.

In fact, Parker oversaw the successful merger of America West Holdings and US Airways in 2005. The combined company boasts an extensive schedule of domestic and international flights, and operates out of Los Angeles, Dallas, Miami, DC, New York, and Philadelphia.

At a minimum, American Airlines Group should bridge the valuation gap between itself and Delta Air Lines, implying a stock price of about $38.00—some 40% above its current quote.

We are adding the stock to the aggressive section of our Model Portfolio, as a buy up to $30 per share.

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