Stock of the Week
NYSE Symbol: UAL
Price as of 7/17: $54.98
After a three percent correction in the broader markets, the averages put on an impressive snap back rally recovering all the losses. Now unfortunately we right back to the highs for the year even though the number of stocks pushing the averages back up or the breath of the markets is getting worse. Not a good sign. The Greek parliament voted in favor of austerity measures in order to begin negotiations for a third bailout package allowing the U.S indexes to post a 6 day winning streak. Even though the economy is not necessarily improving as much as we'd like, the Federal Reserve indicated this week that it's strong enough to handle a rise in interest rates by the end of the year. Bonds and interest rate sensitive stocks and sectors like the utilities may remain under pressure while the stock market crash in China may cause the Chinese economy to slow down more than expected causing global growth to slow further. Investors have taken notice of the Chinese developments and the possibility of slower growth by focusing on US centric stocks and sectors. It's no surprise that healthcare and consumer discretion or retail are the top two sectors for 2015 and the only two sectors with positive returns until the last couple of days. This week we'll highlight a US centric stock benefitting from low oil prices. The stock of the week is United Continental. UAL's stock is down 16.2% year-to-date while the S&P 500 index has increased 3.0%, however since 2012, United has significantly outperforming the markets. UAL's stock has gained an impressive 207.8%. In this period the S&P 500 index has increased 64.1%, and the Nasdaq Composite Index has risen 89.5%. And based on its valuations, free cash flow, and strengthening U.S economy, United could continue to have a couple strong years ahead of it.
Aircraft fuel and salaries represent the primary expenses for airline companies. This past quarter, fuel costs accounted for 23.7% of total operating expense of UAL compared to 32.2% in the first quarter of 2014. And fuel prices are not going to be on the rise anytime soon. According to the chief oil analyst with the Oil Price Information Service, gasoline could be at $2 or less by December. Total savings caused by the collapse of oil prices will definitely benefits UAL, and overall the airline industry. Lower jet fuel costs will lead to increased margins, as demonstrated by the predicted increase of UAL's pre-tax margins of 6.8% in Q1 2015 to the 12%-14% expected in Q2. Because of increasing margins, the airline has seen an increase of net operating cash flow of 162.96% compared to the same quarter last year. In addition, the industry average cash flow growth rate of 74.13%, which United Continental has easily surpassed.
Altogether, United should see improvements in its bottom line as its costs decrease, continuing its recent trend. During the past fiscal year, United Continental increased its bottom line by nearly 115%, and investors could see a strong increase in earnings this upcoming quarter, even if revenues have slightly declined. Operational expenses should continue to decrease as crude oil prices fall, and an increase in the company's ancillary revenue over the past year only makes United Continental a more attractive investment. The airline industry as a whole has also seen traffic growth so far in 2015. And this may continue as Airbus's Global Market Forecast projects that air traffic will continue to increase by 4.7% annually through 2033.
Along with the recent drop in stock price, United Continental's earnings report is in one week, and analysts hold strong opinions about the stock beating expectations. Quantifying Alpha maintains a "Very Likely" EPS Beat Probability of 65-75%, with a Beat Size of 5%-10%. Morgan Stanley holds an $86 price target on the stock, implying a 53% upside. UAL has beaten the street 6 times in a row now, and 8 out of the last 10 quarters, so hopefully history will repeat itself. All in all, the future for United Continental and the airlines in general remains bright.