European airlines: awaiting the ski-boot to drop on revenues

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European travellers are a resilient bunch. This summer, they braved delays, queues and rising ticket prices to fill airline seats in droves, say British Airways owner IAG and Air France-KLM. Both reported strong results on Friday. 

But with summer firmly in the contrail, airline investors fret over mounting storm clouds from high ticket prices, rising fuel costs and the cost of living squeeze. With 75 per cent of expected fourth-quarter revenues already booked, the slower winter season looks reasonable, claims IAG. But the question on investors’ minds is, what will it take for the ski-boot to drop?  

Rising ticket prices have powered revenues. Frequent flyers complain of feeling gouged. As well they might. At IAG, revenues per seat per kilometre flown are up about 25 per cent in the third quarter compared to pre-pandemic levels.

Airlines could lift their prices because seat capacity has lagged demand. In the pandemic, they took older aircraft out of the sky. Indeed, IAG expects to close this year at 96 per cent of pre-pandemic capacity. 

True, expansion at low-cost airlines means that overall capacity has recovered beyond 2019 levels, says Alex Irving at Bernstein. But it should have exceeded that a while ago. Historically, it has grown by some 3 per cent a year.

This supply squeeze has allowed airlines to pass higher costs through to consumers. Operating margins at IAG, which came in at 20.2 per cent, have gone just above 2019 levels. 

Trouble is, ticket prices cannot climb indefinitely without making staycations more attractive. For guidance, look no further than the US. Domestic fares have declined this past quarter.

Meanwhile, fuel costs are rising. IAG, which is 73 per cent hedged for the fourth quarter, says it will reach €7.6bn for the full year, up from €6.1bn in 2022. That more than offsets other savings.

High seat prices and swelling fuel costs should keep airline stocks grounded, just as new capacity arrives.