By Rajesh Kumar Singh

CHICAGO (Reuters) – U.S. airlines appear to have rediscovered their mojo, thanks to a sharp reduction in capacity that plagued the market this summer. Airfares have turned higher, and airline stocks are now outperforming the broader market.

That improvement was one reason why American Airlines lifted its full-year profit forecast. It led to a surprise third-quarter profit at Southwest Airlines and has put Delta Air Lines on track to deliver one of the most profitable fourth quarters in its history.

The NYSE Arca Airline index has gained 23% in the past three months, outpacing an 8% jump in the S&P 500 index.

It’s a reversal from this summer when excess supply of seats in the price-sensitive end of the market forced carriers to discount fares to fill their planes, hurting earnings.

Airlines have aggressively reduced growth plans since then. Annual domestic seat growth slowed to 1.9% in the current quarter – the lowest rate after the COVID pandemic – from 8.3% a year ago and 6% in the June quarter, according to data from TD Cowen.

Capacity growth is estimated to slow next year as well.

“People are trying to ensure that their capacity is lined up with the amount of demand they see for their business models,” American’s CFO Devon May said in an interview.

Aircraft delivery delays have also put a cap on the industry’s growth plans, May said. With jet production taking a hit due to a strike by Boeing’s factory workers and Airbus’ supply chain challenges, the cap is not expected to be lifted anytime soon.

A sharp slowdown in capacity, meanwhile, has boosted airlines’ pricing power. U.S. inflation data shows airlines fares rose at their fastest clip in 18 months in September. In the current quarter, domestic fares are up 9% from a year ago, according to data from Raymond James.

‘MORE BULLISH ON AIRLINES’

United Airlines CEO Scott Kirby this month said the industry has reached an “inflection point,” and the exit of “unprofitable” capacity would kick off a multi-year run of profit growth that airlines enjoyed in the last decade.

“The only question now is how much margins expand compared to what happened in the 2012 to 2014 time period,” Kirby said on United’s earnings call.

At that time, low growth propelled operating margins of U.S. carriers to over 11% in 2014 from under 6% in 2012, sparking a 300% rally in airline stocks in those three years.

After the pandemic, airlines struggled to fire up their earnings despite strong travel demand, hurting their equity performance.

Capacity adjustments, as well as a 20% year-on-year decline in jet fuel prices in North America, however, have bolstered the industry’s outlook.

“We are more bullish on airlines today than we’ve been in a long while,” said Conor Cunningham, an analyst with Melius Research.

Reduced capacity has also made airlines less fussed about aircraft delivery delays. Southwest last week said its reduced growth over the next three years has left the company with surplus planes.

As a result, the Dallas-based carrier is planning to sell its planes in the secondary market. Similarly, Frontier has deferred taking deliveries of 54 Airbus jets. JetBlue has deferred deliveries of 44 new jets from Airbus.

“Every aircraft must continue to earn its way into the network,” JetBlue President Martin George said.

Encouragingly, there is broad consensus among carriers over capacity discipline. Even ultra-low-cost airlines, which have traditionally relied on high growth to fully utilize their fleets and lower operating costs, have tamped down their growth plans.

Frontier, for example, plans to grow its capacity in the mid single digits next year, compared with about 19% average growth in the past two years.

“What we’re seeing now is people are cutting, and they’re going to continue cutting until they hit their target margin,” CEO Barry Biffle told analysts on Tuesday. “I think that’s probably the best backdrop that we’ve had in probably 7 to 10 years.”

 

(Reporting by Rajesh Kumar Singh, additional reporting by Abhijith Ganapavaram in Bengaluru; Editing by Nick Zieminski)