Market Update: Webinar and slides, October 2016 Brexit, the Plateau and Regional Risk Presented by: Stuart Hatcher stuart.hatcher@iba.aero
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Brexit Short, medium and long term Hard Brexit or no Brexit No easy ride on negotiations little chance of having the cake and eating it! UK: Exodus, GDP, Currency & Inflation Foreign business scare tactics, GDP warnings for 2018 Sterling slide, falling interest rates & rising inflation UK-based operators will feel it Changing Political Landscape Freedom of movement, further fractures will appear, economic uncertainty for UK and more dominant EU members, ties with the US could go either way but NATO remains still
How long is the top of this cycle! Oil free market price volatility GDP modest ~2.9-3.2% (2017 not great but traffic will rise) World Trade declining Interest Rates just above zero (some below) Inflation CPI falling but is that real? Currency USD remains strong Airline results down (competition/yields/currency/political) Deferrals the backlog can take it! Extensions Still rising Asset pricing Still rising Lease Rates Still falling Investment appetite Still rising - Aviation remains very popular Signals remain at extreme levels
Economic Outlook Signals Oil Interest Rates GDP World Trade USD Regional Forecast Europe North America China Latin America Asia Pacific 2016 2017 Demand trends Pax traffic Freight traffic Yield Load Factors Orders World India Some Supply factors Deliveries Parking levels
Country risk chasing profits and changing circumstances Operator Country % of fleet leased TI CPI Rank Ease of Doing Business (EODB) Rank EODB Enforcing Contracts EODB Resolving Insolvency % GDP Growth 2013 % GDP Growth 2014 % GDP Growth 2015 Ethiopia 37.3 103 146 84 114 10.6 10.3 9.6 Ireland 22.6 18 17 93 20 1.4 5.2 7.8 India 73.7 76 130 178 136 6.6 7.2 7.6 China 31.9 83 84 7 55 7.7 7.3 6.9 Vietnam 67.1 112 90 74 123 5.4 6.0 6.7 Philippines 37.6 95 103 140 53 7.1 6.1 5.8 Panama 35.2 72 69 148 132 6.6 6.1 5.8 Kenya 55.2 139 108 102 144 5.7 5.3 5.6 Pakistan 67.0 117 138 151 94 4.4 4.7 5.5 Malaysia 38.8 54 18 44 45 4.7 6.0 5.0 Indonesia 69.1 88 109 170 77 5.6 5.0 4.8 Morocco 41.9 88 75 59 130 4.7 2.4 4.4 Egypt 27.8 88 131 155 119 2.1 2.2 4.2 Sweden 81.0 3 8 24 19 1.2 2.3 4.1 Turkey 42.0 66 55 36 124 4.2 3.0 4.0 Saudi Arabia 41.7 48 82 86 189 2.7 3.6 3.5 Spain 66.7 36 33 39 25-1.7 1.4 3.2 We looked at a variety data for a couple of lessors one going in and one getting nervous. Clear correlation between GDP growth and passenger traffic. And also risk Ethiopia and Turkey are great bad examples India brings different challenges LatAm operators have impressed us Iran s not on here but is on many radars What to monitor: Economic, political & regulatory changes, Key staff changes, Route changes and cancellations, Utilisation, records & maintenance systems issues, Order deferrals, and rumours of payment difficulties Sources: IBA, Transparency International, World Bank
Single Aisle Market Values remain strong for newer types strong demand remains for sale leaseback transactions supporting new delivery values Oil prices remain suppressed supporting values and lease rates of older aircraft older single aisle values have improved, but are more sensitive to fuel price volatility Lease rate factors continue to be squeezed, particularly at the newer end of the narrowbody market Shorter lease terms, even for new generation of jets Little premium in terms of lease rates for new generation single aisles compared with outgoing generation Fewer lessor orders with more bias towards operators that have not bought yet, lessor orders that have been placed for narrowbody models are much smaller in magnitude than the trends of recent years Expect greater push from Boeing to equalise the neo/max variance Lease rates factors falling aided by new entrants entering the market Orders continue to show signs of slowdown - popular neo and MAX models have received orders, however not at the pace of recent years Trends Sale & Leaseback Pricing Sales with leases attached Lease Rate Factors Lease rates OEM pricing Lease Term Lengths Extension opportunities LR premiums for new generation
Twin Aisle Market Few orders for widebody aircraft this year have operators already made their choices? or can they not decide? There are a lot of options to choose from is the widebody space too crowded? The market remains cautious Expensive reconfigurations place pressure on residual values for larger second-hand widebodies specification, configuration and maintenance condition are key A380 second-hand market is about to be tested new deals continue to be struck at buoyant prices, will residual values and secondary lease rates stand the test? Sale leaseback transactions to top credits see weakened economic return conditions IBA has seen 25 30% life RCs on primary leases Numbers of mature parked widebodies on the increase Around 80 Airbus A330s and 50 Boeing 777s are currently parked. Newer Boeing 787 and Airbus A350 models are becoming established in the market fleet sizes are growing Single aisles remain a less risky proposition. Easier and cheaper to transition and manage Trends Sale & Leasebacks Boeing 777 and Airbus A330 storage Lease Rate Factors Orders Return Conditions Mature widebody values and lease rates
GDP IMF & OECD adjusted their GDP forecasts after the Brexit vote in both cases downgrading initial forecasts in April by -0.1%. World 2016 levels 2.9 (OECD), 3.1 (IMF) World 2017 levels 3.2 (OECD), 3.4 (IMF) IMF Predictions: Europe will drop, Americas will rise with developing countries USA falling in 2016 to 1.6, but rising to 2.2 in 2017 Euro Area steady decline to 1.7 and 1.5 over 2016/17 Japan holding steady at 0.5-0.6 China steady decline from 6.9 to 6.2 in 4Q 2017 UK strong decline from 1.8 to 1.1 over 2016-17 Russia rising from -3.7 to -0.8 in 2016 and 1.1 in 2017 Brazil low in 2016 at -3.3 but rising to 0.5 in 2017 India holding firm at 7.6 throughout GDP growth coming from North America and developing countries returning from current woes Traffic forecast expected to follow suit Source: World Bank & IATA
Interest Rates UK view Initial forecasts pre-brexit vote pointed to a rise by 2017 despite negative inflation threats from 2015. Unemployment fell from 7% to ~4% Post-Brexit vote issues triggered a drop from 0.5% to 0.25% - with further indications that a drop to 0.1% could happen soon With a weaker pound, inflation will rise on imports that may trigger an inflation spike this will counter any further drop in rates and may cause an early rise but the BOE may be happy to tolerate a rise in inflation If these factors remain in check, the next significant rise may not happen until after 2020 Federal Reserve Rate view - Moving view from early 2016 Old view: Expectation that Fed Reserve will raise at some point this year whilst production remains strong Recent view: GDP forecast downgrade makes this less likely Latest view: small rise possible December (avoiding election) but there is no rush! Source: FRED
Pax traffic showing some softness Air Passenger Travel Growth & Business Confidence (August data) General slow down in traffic in summer season echoed by falling GDP levels International traffic up, but domestic traffic varies In general, despite political turmoil and the threat of terrorism, Brexit shocks and currency fluctuations, operators are posting decent returns in general Across all markets, only Russian and Brazilian domestic markets and North/South American international routes are exhibiting negative growth Business confidence remains steady
International Traffic International Passenger Traffic Industry in general saw a weaker result for int l traffic Middle East leads way on growth YOY but capacity increases affecting load factors by up to -3% Asia Pacific region benefitted from more regional tourism avoiding European terrorism and political instability Latin America remains resilient in the international market at least Africa continues to be sluggish Europe showing strain from terrorism and political problems
Domestic Traffic Domestic market in general shown strong resilience industrywide but growth rates are wide Domestic Indian market remains out in front with double digit growth rates. Consumer spending and expanded airport networks evident US market remains at a more modest level moving sideways rather than up. Doesn t bode well for the months ahead as capacity is cut. Load factors slipping Brazil and Russian markets still showing pain from the recession. Whilst Russia s overall RPK growth appears to be bottoming out in general, both regions have seen huge capacity decreases. Transaero s departure helped in that regard! GDP recovery should even out poor market performance in Russia and Brazil Domestic Passenger Traffic
Yields & Currency concerns Yields continue to slide Airfares falling faster than oil Stronger competition on routes and falling capacity Many operators have removed fuel surcharging despite hedging at higher levels remaining in place Some operators have risen base fares, but it depends on market environment Stronger USD has significant impact on global fares. Further squeezing non-us airlines that have costs in USD but fares in local currency
Aviation Cycle Impact Demand trends Supply factors Pax traffic Up Deliveries Strong Up Freight traffic Flat/down Parking levels NBs down, WBs up Yield Flat/down Secondary market Active NBs, slow WBs Load Factors Flat Economic life Holding NBs, down WBs Orders Flat
Airline Results In June 2016, IATA predicted that profits for the industry would be marginally up on 2015 c.$39bn Initial Q3 results indicate that whilst the bigger carriers are posting profits, they are down on 2015 US Majors: Falling capacity from Summer to Fall, pay hikes, dropping fares, stronger competition on routes, slight uptick in fuel cost adding pressure to revenues Margins are ~3% down Delta leading the net profit charge at $1.26Bn/19%, followed by United $965m/17% and AA $737m/16% - so some slippage from last years Q3 margin by a 2-3%. Southwest leading the LCC charge at $388m/19% The smaller carriers posted excellent margins still Alaska 256m/27%, JetBlue 199m/20%, Hawaiian 103m/27%, Spirit 81m/23% and Allegiant 46m/23% Initial indications are that Asian carriers are still feeling the pain. In 3Q15, MAS, TransAsia, Spicejet, Thai, Nok, Air Asia X were all in the red, with others like Singapore marginally above the line. JAL and ANA were performing well, along with Chinese carriers though Early indications suggest that a similar trend is continuing. Cathay has indicated profits are down, but the Chinese market continues to remain strong (albeit 3% down on margins) and Indian LCCs should be issuing good results too European results were varied but strong in 2015. 3Q16 looks to be good too with some indications from operators that Brexit and terrorism would have had an effect early results don t bear that out yet IAG posted $1.03Bn/19% (up from 2015), Finnair $97m/10% (up), Norwegian $120m/19%, Ryanair was 937m/41% last year (highest margins) they have already warned the market but may be a smoke screen if the rest are to go by! Monarch facing difficult times
Historical Net Orders Airbus & Boeing Order volumes were down as expected why? No point buying fuel efficient aircraft? Have plenty on order already? I m going to remain focused on a rational strategy? Lets wait and see what happens to fuel? Delivery is too far away? Sources: Boeing & Airbus Remaining Backlogs Airbus 6,749 Boeing 5,612 Backlogs have actually dropped for the first time since 2009 (-207 so far this year) We still expect a December year-end flurry!
Orderbook Positive & Negatives Pro: Current traffic growth will sustain current backlog for growth not replacement If traffic is sustainable, older aircraft will be around for some time Can identify heavy A320/B737 users that have still yet to order sufficient aircraft Many operators have yet to decide on a widebody replacement strategy too Con: RPK growth slows back to traditional levels Production increase pushes excess supply into the market New aircraft sufficient for replacement and growth pushing older types back onto lessors Deferments occurring Lease terms likely to shrink along with economic life Some weakness in order book still
Trading Volumes Considering new operating leases, secondary sales and sale leasebacks, trading volumes for 2016 appears to be close to levels encountered for 2015 although majority of most liquid aircraft are down so far Once again, we expect the top 3 families that trade under those scenarios to remain the same. In terms of % of trades performed this year: A320 family = 22.9% 3.7% of the in service fleet 737NG = 14.2% (16.0% in 2015) 2.7% of the in service fleet 737 classics = 8.8% (8.5% in 2015) 7.5% of the in service fleet A320 family trading is at same level as for 737classics & 737NG The top 3 specific models are the same as in 2015: A320-200 = 12.5% of trades 737-800 = 10.9% of trades A321-200 = 6.3% of trades Widebody trading is down from 2015 but not far from long-term trend 767s = 4.1% of 2016 trades 10.2 % of the in service fleet A330s = 2.6% of 2016 trades 4.6% of the in service fleet 777s = 2.0% of 2016 trades 3.2% of the in service fleet 4 engined aircraft overall remain down on previous year Secondary trading 2016F v 2015 Volume CMV A320-200 737-800 A321-200 767-300ER A319-100 737-700 A330-200 A330-300 787-9 777-300ER 777-200ER A350-900 737-900ER 787-8 A380-800 (new) A340-500/600
4Q16-1Q17 view Low oil continues to stimulate growth in developed economies slow rises expected only until >2020 Emerging markets growing but oil is too low Strong USD hurting US exports, election result could be defining moment or anti-climax Brexit effects still settling. UK economy reacted better than expected and exports have been boosted by falling pound, full effect only speculation at the moment Interest rates will remain low with further drops in Europe, small rises in US market (early 2017) Inflation rising due to strong USD for ROW could trigger early interest rate rises Traffic will remain strong for 2016 within US, Europe less certain. India and China still exhibiting strong growth Chinese & Japanese markets still retains strong appetite to acquire aviation businesses Airlines generally still doing well, but some high profile operators have seen big drop in profits. Brexit and weak pound has had an effect on UK carriers South American, Russian and South East Asian operators feeling pressure, Western European and US doing well Values for younger aircraft still rising, lease rates still falling margins are very thin 2015 was the top of the market for operators, we are now on the plateau. Pricing is increasing still but lease rates can t support values at current levels indefinitely should operator demand significantly reduce! Watch your lessees!