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Why Rising Airline Capacity Growth Is Worrisome for Investors

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Sep. 4 2017, Updated 9:06 a.m. ET

Industry average

Capacity growth for the seven major airlines grew 6.9% year-over-year or YoY—higher than the average 4.6% YoY growth recorded in the first half of 2017. The average industry growth for the seven players was 4.9% YoY in July 2017 and ~7.1% in 2016.

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Capacity growth slowing down

Toward the end of 2016, airlines started reducing their capacity growth. This move helped allay investors’ fears of overcapacity leading to capital destruction, which had been the trend historically.

However, for the past two months, airlines have started increasing their capacity growth. Ultra-low-cost carrier Spirit Airlines (SAVE) has shown the highest growth of 22.7% YoY—significantly higher than the 14.3% YoY average growth we saw in the first half of 2017. Regional carrier JetBlue Airways (JBLU) has grown its capacity by 5.9% YoY in July 2017—again higher than the capacity growth of 4.5% YoY recorded in 1H17. Southwest Airlines’ (LUV) capacity has grown 5.5% YoY, compared to the 4.6% YoY average growth recorded in 1H17. Niche legacy player Alaska Air Group’s (ALK) capacity has risen 6.4% YoY, compared to the 5.3% YoY growth recorded in 1H17.

Legacy carriers have maintained their low-single-digit capacity growth. United Continental (UAL) has increased its capacity by 4.6% YoY in July 2017—again higher than the 3.4% YoY average growth we saw in 1H17. American Airlines (AAL) has increased its capacity by 1.9% YoY, compared to the 0.1% YoY growth we saw in 1H17. Delta Air Lines’ (DAL) capacity for the month rose 1.6% YoY, compared to the -0.1% YoY growth recorded in 1H17.

Outlook 2017

Overcapacity has been detrimental to airlines’ profitability, as airlines tend to reduce fares so that they can fill up extra seats, reducing yields. However, the capacity target for 2017 shows that airlines have realized the importance of capacity discipline. Investors can continue to expect low capacity growth for the rest of 2017.

Investors can gain exposure to the industry through the PowerShares Dynamic Leisure & Entertainment ETF (PEJ), which invests 19.2% of its portfolio in airlines.

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