While Oil Is Down, Southwest Stock Flies High

  • Southwest stock price is up 60% since oil peaked in mid-2014.
  • The company focuses on its low-cost structure, and is leveraged to make money on lower fuel prices.
  • International expansion, mostly through partners, is a bonus.

A lot of people missed a big move in 2015. Since early July Southwest Airlines (NYSE:LUV) is up 37%, beating the Nasdaq by a fair margin. (See comparison chart below)

LUV stock chart

Source: SouthwestAirlines stock price data by amigobulls.com

Like other airlines, Southwest hedged its fuel prices as they were rising, but since the middle of the year it is finally taking advantage of lower jet fuel prices, like the rest of the industry, and the results are starting to show up on the bottom line. Operating margins were up in the third quarter, to just about 25%, with top-line growth year-over-year at over 10%. Cash flow for the third quarter alone came in at $3 billion.

This means Southwest is finally able to expand internationally. The company was formed in the 1970s to take advantage of a Texas deregulatory scheme (the Southwest stock symbol represents the airport code of Love Field in Dallas, its first base) and expanded after that on the back of U.S. deregulation which began under Jimmy Carter. Its unique system of direct flights, a contrast to the hub-and-spoke system then in wide use, was eventually copied (after a fashion) by rivals, and Southwest’s route network came to resemble theirs in many ways.

Southwest now operates the equivalent of hubs in a few markets where it dominates, like Baltimore-Washington, Midway Airport in Chicago, Hobby Airport in Houston, and of course at Love Field. It is a player in more crowded markets like Atlanta, Denver and New York, but it likes to make the big money in airports where it can be the big fish in a little pond – if you’re flying out of Islip on Long Island, you’re probably going on Southwest.

But this strategy, too, has been copied. So last year it announced it would begin expanding internationally, not in a wholesale way, but in a strategic way, going in-and-out of a few major tourist destinations like Belize, Jamaica and Punta Cana, on the southeast tip of the Dominican Republic. Southwest today offers more direct flights to Cancun than to Mexico City. It doesn’t yet serve Monterey, but it’s big in Cabo San Lucas. Many of the flights are handled by local partners – the only Southwest-branded nonstop to Nassau in the Bahamas, for instance, goes to Baltimore-Washington.

Southwest focuses most of its attention on keeping costs down. It only flies the 737, which is perfect for its average flight of about 650 miles. The experience is more like that of a bus ride than an airplane ride. The focus is on keeping planes in the air, keeping them off the ground, and uniformity in customer experience.

It makes money. So long as jet fuel prices remain low, it should continue to make money. Given Southwest’s love of hedging, it should make good money even after fuel prices start to rise. Southwest stock price is up nearly 60% since the price of oil peaked in the middle of 2014, but there is more room to run.

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  • I do not have any business relationship with the companies mentioned in this post.
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