Boeing CEO Dave Calhoun said in an NBC interview on Tuesday that a U.S. airline bankruptcy is likely in 2020. It is a curious comment coming from an executive whose company sells to airlines, but Covid-19 has hit the industry particularly hard.
Looking ahead, Calhoun’s comment raises two questions for investors: which airline and is that bad for Boeing?
The answer to the second question is: not so much. Many airlines have gone bankrupt in the past and demand for air travel —which fuels demand for Boeing’s (ticker: BA) planes—continued to grow year by year
Covid-19, of course, is unprecedented, cratering demand for air travel like no other event in history. Air travel in the U.S. is down more than 90% year over year. Boeing expects demand to be back to roughly 50% of previous levels by year-end. That assumes the economy reopens and things start to get back to normal. Many Wall Street analysts think it will take years to get back to pre-virus demand.
Boeing shares are down on that expectation, falling about 60% year to date, worse than comparable drops of the Dow Jones Industrial Average and S&P 500. Shares of major U.S. airlines are down, on average, about 60% year to date, too. But if bankruptcy is in the offing, some airline shares might have further to fall.
There are financial instruments that help investors judge the odds of default for any company, namely the credit default swaps, or CDS, that helped catalyze the 2008-09 financial crisis. Buying a CDS literally swaps the risk of a bond default from one investor to another investor. The investor who takes the risk gets paid. The riskier the bond, the higher the price.
Examples among airlines are Southwest Airlines (LUV) and Delta Air Lines (DAL), which have the best balance sheets in the industry and appear to be in the best position to weather the downturn.
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Credit default swaps of Southwest and Delta are trading at spread of about 4.7% and 12%, respectively. That means that bondholders wanting to swap the risk of default have to pay $4.70 and $12, respectively, for each $100 of bonds they want to protect.
Those prices are much higher than normal. Protecting Apple (AAPL) bonds, for instance, costs about 30 cents per $100, according to Bloomberg CDS pricing quotes.
American Airlines (AAL) CDS are trading at spreads of 54%. United Airlines (UAL) CDS trade for 24%. JetBlue Airways (JBLU) CDS trade for 1.6%. Investors appear to be most nervous about American’s ability to repay. Thus, its bonds are the costliest to insure.
There is, of course, no guarantee that Calhoun’s prediction will come true. The federal government is offering support to the airlines, including American, much like the support offered to banks in 2008-09. That is one way airlines might avoid bankruptcy. But the government will take some form of equity in the airlines receiving money, diluting the value of existing shareholder stakes.
Warren Buffett recently made headlines when he said his Berkshire Hathaway (BRK.A) sold all the airline stocks it held. He explained at the company’s annual meeting that it wasn’t anything that the airlines had done strategically. He makes a good point. No one saw the virus coming, nor its devastating impact on air travel.
Boeing stock fell 2.9% Tuesday afternoon. Shares of large U.S. airlines fell between 3% and 6%.