United Continental isn’t ready for take-off


Julian Close 01/27/2014

United Continental ( UAL ) was created in 2010 by the merger of UAL Corp. and Continental Airlines. The new company uses the logo of Continental, but operates under the name "United Airlines." Consolidation in the airline industry is nothing new, of course, though in recent years, the consolidation (along with just about everything else in the industry) has been defensive. The last 15 years have been lean for the industry, and the remaining companies have been struggling just to hold on to what they have.

The number of employees in the airline industry peaked in 2000, then went into decline. Airline traffic peaked in 2007, then went into decline. The industry's decline has a lot to do with the cost of jet fuel, which cost $0.67 per gallon in the summer of 2002 and $3.88 per gallon-more than five times that much-in the summer of 2008. Fuel prices can't be all there is to the story, however, because many air-cargo companies did extremely well over the same time period. The terrorist attacks of 9/11 clearly played their part in the decline of passenger traffic, as many Americans were turned off by added security measures, and others were left with a lingering uneasiness about flying. 

Recently, however, the economy has been picking up, wealth is being created, and the price of fuel has been drifting lower. Terrorism is still a concern, but it seems to have moved off the tarmac in recent years. It may also be that after 15 years of Internet-for-everyone, Americans are tired of living their lives virtually and are taking advantage of the opportunities they now have to go to actual places and to do actual sightseeing, shopping, and socializing. Whatever the cause, passenger traffic is on the rise again.

United Airlines reported on Thursday, Jan 23 that it had earned $0.78 per share in the fourth quarter of 2013, beating the consensus estimate of $0.66 per share. More significantly, the number represented a quarterly profit of $140 million, which was an enormous improvement from the year-ago quarter, when the company lost $620 million.

Don't bother returning your seatbacks and tray-tables to their full upright positions just yet, however, because United Airlines isn't ready for take-off.

The company's earnings announcement came at the end of a quarter in which UAL stock rose more than 50%, and though the bottom line number was good, it did not, by itself, justify that much enthusiasm. Nor did the company's going-forward earnings guidance, as the airline seems to have gotten off to a very weak start in 2014, and is expecting a big loss in the next quarter-bigger, in fact, than its profit in the last. All told, The Street wasn't happy, and from Thursday's opening price of $48.10, UAL stock has fallen to a recent price of $46.55.

Due to the frequent flipping back and forth from profits to losses and back again, none of this company's listed valuation numbers really mean anything. It is true that things look better for the industry than they did just 18 months ago, but UAL stock has already more than doubled as a result. That gives me pause, given that the promise of a turnaround is really still just speculation at this point. In particular, it is the increasingly sharp rise leading up to Thursday's earnings announcement that leads me to conclude that UAL has already enjoyed all the upside it is likely to see this year. As recently as Christmas, UAL was trading at only $36.78, and the rapid rise indicates that The Street was expecting a truly fantastic earnings announcement, and that didn't come. 

Though he was clearly enthusiastic about the company's long-term prospects, Chairman/CEO Jeff Smisek was very clear in the earnings conference call about the fact that United Continental still has many problems to overcome before it achieves real greatness. I hear that as a warning; I think Smisek knows that it will be some time before he can give investors a company worth the $46.55 they are currently paying for it. 

Chart courtesy of stockcharts.com

We seek to capitalize on likelihood that UAL is overbought and is unlikely to rise significantly higher in the near term. Look at the June 52.5/55 bear-call spread for at least a $0.60 credit. Use limit orders. This trade has a target return of 31.6% over 145 days for an annualized return of 80% (for comparison purposes only). The stock has to rise 13.3% to cause a problem. This is an aggressive trade, best suited to investors with diverse portfolios and a high tolerance for risk.  

The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of The NASDAQ OMX Group, Inc.

Originally published on InvestorsObserver.com

This article appears in: Investing , Options

Referenced Stocks: UAL



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