Airlines Could Fall 30% In A Recession

In a new report, Morgan Stanley analyst Rajeev Lalwani looked at how U.S. airlines would perform in a recession scenario. Despite poor performance during past periods of economic weakness, Lalwani believes the companies are now better positioned to handle an economic downturn than ever before.

Morgan Stanley’s recession scenario analysis calls for about 10 percent downside in pricing, a 5 percent reduction in supply, a 4 percent increase in non-fuel costs and about $30/bbl oil. In this scenario, Lalwani believes 30 percent downside to airline stocks is justified given the firm’s estimates that legacy airliners’ earnings would take about a 55 percent hit.

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However, with many airline stocks already down 15 percent so far in 2016, Lalwani believes the risk/reward for top airline stocks has now become bullish.

“Following the YTD sell-off, current levels imply a 50 percent + chance of a recession (vs. our firm’s 20 percent estimate), skewing risk-reward favorably,” he explained.

Morgan Stanley’s top airline picks include Overweight-rated Alaska Air Group, Inc. ALK, Delta Air Lines, Inc. DAL, United Continental Holdings Inc UAL and Air Lease Corp AL.

The firm maintains Underweight ratings on Hawaiian Holdings, Inc. HA, Virgin America Inc VA and Atlas Air Worldwide Holdings, Inc. AAWW.

Disclosure: The author holds no position in the stocks mentioned.