Southwest: A Stock to LUV

11/18/2015 7:00 am EST

Focus: STOCKS

Richard Moroney

Editor, Dow Theory Forecasts

The airline industry as a whole is adding seats; the six largest publicly-traded US airlines averaged 5.5% growth in capacity in the nine months ended September, with passenger traffic up an average of 5.6%, observes Richard Moroney, editor of Dow Theory Forecasts.

Southwest Airlines (LUV) has managed to be among the more aggressive expanders (capacity up 6.9% this year) while making unusually efficient use of those new seats (traffic up 8.0%).

Helped by an all-time high of 85.4% in the September quarter, Southwest’s load factor (percentage of available seat miles filled by revenue passengers) rose to 83.5% in the first nine months of 2015.

None of the other five airlines managed such a large improvement in this key efficiency factor and two saw their load factors fall.

Fuel costs fell to $2.20 per gallon in the September quarter, down 25% from a year earlier.

The company estimates per-gallon costs of $2.05 to $2.10 in the fourth quarter, which should help keep profit margins rising, as they have in each of the last nine quarters.

In the first nine months of this year, Southwest grew sales 6% and per-share profits 85%. The consensus projects sales and profit growth of 9% and 53%, respectively, in the December quarter, followed by 6% and 13% growth in 2016.

Over the years, airlines have acquired a well-deserved reputation as boom-or-bust stocks; in part because they indulge in binges of expansion, then spend years sleeping off the hangover. That seems less likely this time around, at least for now.

Southwest now flies to 96 cities. In mid-October, the airline opened a $156 million international terminal in Houston, with flights to Mexico, Aruba, Jamaica, Costa Rica, the Bahamas, and Belize.

At 14 times trailing earnings, Southwest trades 26% below its five-year average P/E ratio and 22% above the average airline in the S&P 1500 Index, well below its five-year average premium of 41%.

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