Buoyant European airlines shrug off economic gloom

After three years of shocks including the global pandemic and soaring fuel prices following Russia’s invasion of Ukraine, airline bosses are facing a more welcome puzzle: why is demand booming even as concerns mount over a deepening economic downturn?

The UK’s easyJet on Tuesday became the latest carrier to predict a strong summer as it raised its earnings forecasts for a second time this year, boasting not only strong sales but also a willingness among passengers to pay high prices.

European rivals have reported similar trends and many are already back in profit despite rising inflation and economic headwinds.

Ryanair chief executive Michael O’Leary has predicted that an expected rise in air fares of up to 15 per cent this summer will have no impact on bookings.

Industry executives put the resilience in demand down to peoples’ desire to return to normality and resume travelling following pandemic restrictions.

Johan Lundgren, easyJet chief executive, said it had become increasingly clear this year that consumers were “prioritising” travel after border restrictions and Covid testing rules hampered tourism between 2020 and 2022.

“We see strong momentum for bookings which is being driven by customers continuing to prioritise spending on their holidays,” he said. “Consumer research has said for some time that travel has risen in importance for consumer spending and this is clearly coming through in our bookings.”

He pointed to recent research from industry association the European Travel Commission, which found that travel was the only discretionary expense that people were willing to maintain despite the economic conditions.

A KPMG survey of UK consumers in December came to a similar conclusion, with travel moving to the top spot for non-essential spending over the next 12 months.

Ambrose Faulks, co-manager of Artemis UK Select at Artemis Investment Management, which holds shares in easyJet, IAG and Ryanair, put the industry’s resilience down to “pent-up demand, coupled with large excess savings post-Covid, coupled with a long absence of visiting friends and relatives, and business demand.”

Lundgren said recent price rises should also be taken into context. He said the 31 per cent rise in ticket prices in easyJet’s most recent quarter averaged about £12, equivalent to the cost of a couple of coffees and a snack at an airport.

“It is in absolute numbers not that massive compared to some of the other cost increases in society,” he said.

Price rises in the summer — when tickets are typically considerably more expensive — will be more material for consumers, with the average easyJet fare standing at £90 for a one-way ticket.

“Despite cash crunches elsewhere, whilst we have full employment and job security, people are willing to dip into savings and give themselves a holiday,” said Greg Johnson, a travel and leisure analyst at Shore Capital. “The question going into next year is can the level of demand be sustained at current price levels?”

With no signs that consumers have been put off yet, the sector’s recovery prompted Air France-KLM chief executive Ben Smith to declare this year that the airline had “turn[ed] the page” on Covid.

But despite the robust demand, companies are finding it more of a challenge to convince investors to fully back their recovery. Shares in many of Europe’s major carriers are still well below their pre-pandemic levels, despite a recent strong rebound.

Even before Russia’s invasion of Ukraine, Warren Buffett described airlines as a “death trap for investors”, with companies’ fortunes normally closely tied to the global economic cycle and exposed to external shocks, from natural disasters to swings in the oil price. The US investor sold all his airline holdings in May 2020, pronouncing that “the world has changed” for the industry following Covid.

Industry executives admit that companies have more to do to convince skittish investors to return, particularly after last summer’s rebound was marred by travel disruption.

Analysts and investors said concerns hanging over the sector included whether the industry could remain immune to the economic backdrop forever, as well as the future path of oil prices and rising environmental concerns, including carbon taxes.

“Recent share moves are telling you there is reasonable confidence summer trading will be healthy,” said Barclays analyst Andrew Lobbenberg. “But looking beyond that, investors are certainly anxious about macroeconomic developments . . . and are unsure about the pace of the business travel recovery.”

The industry also emerged from the pandemic with a significant debt burden, opening a debate as to whether airlines will be forced to turn to investors to stump up more capital.

Nevertheless, European airline executives and fund managers who have backed the industry believe its leading players have re-emerged stronger. Companies now have lower costs following cutbacks, leaving them ready to cash in on resurgent demand and the crucial summer season with less competition after weaker airlines retrenched or collapsed, they say.

Supply chain constraints including aircraft shortages also mean it is harder for new entrants to shake up the market, or for incumbents to rush in new supply of seats leading to a collapse in prices.

Chris Davies, an investment manager at Baillie Gifford — which is the third-largest investor in Ryanair and has owned the stock for over a decade — held shares even during the bleakest days of the pandemic, in the belief the airline would prosper.

“For us, holding Ryanair through the pandemic was very much about them just being able to take a lot more market share because they were going to survive, others were going to struggle and come out the other end in much worse shape,” he said.

Ryanair, Europe’s largest airline, is now leading the industry recovery, but its shares are 10 per cent below pre-pandemic levels despite the market share gains it is targeting.

“We still think that there’s quite a big mismatch here between the opportunity in front of them, their ability to exploit it and where the market is today,” Davies said.

Ryanair’s O’Leary said he expected European airlines to be “re-rated” later this year following a “dramatic reassessment” of the sector by investors.

But his optimism came with a warning that underscored the sector’s vulnerability to external shocks and has put off some investors.

“I would hope we are in for two or three years of reasonably stable capacity, reasonably stable pricing,” he said. “But then fuel could mess it up. Or an Icelandic volcano — or war and pestilence somewhere”.