One of the sectors that has led the entire stock market lower, and nearly to bear market levels is the transportation sector. Transportation is a sector that is normally expected to perform well when the economy is healthy, but as it has shown since the beginning of the last quarter of 2018, it can also lead the broad market as a bearish indicator when economic uncertainty and market fear increases. As measured by the S&P Transportation SPDR (XTN), the sector has declined by more than 18.5% since hitting its last major peak in late August of last year. That decline has really accelerated in the last month, as the sector has dropped almost 15% since the beginning of December. That has pushed a lot of stocks in this sector to levels not seen in the last two years.
If this is, in fact the beginning of a new bear market, the fact is that transportation stocks could keep taking a beating. One economic indicator that we can use as a generalized gauge for the sector is interest rates. If the economy grows at a rate that the Fed deems overly inflationary, it may be forced to take a more hawkish tone about the pace and size of interest rate increases than it is currently presenting. Most experts are forecasting the Fed will increase rates twice in 2019 as the central bank keeps trying to maintain the delicate balance between accommodation and restriction that has dictated the nature of its rate increases since late 2015. If we see more than two increases, or the size of those increases is more than the 25 basis points that has marked each increase of the past three years, you can expect transportation to continue leading the market lower.
If the risk in this sector seems to remain relatively high right now, you might wonder why I’m calling Alaska Air Group, Inc. (ALK) a bargain right now. That’s because based on the stock’s fundamental strength, and its historical valuation measurements, it’s already being priced at very interesting value levels. Do I think the stock is done going down? I’m not so sure about that; the risk in the broader sector, and the market does mean that there is still a fair amount of downside risk to contend with. For a strict, value-based investor, however, the stock’s fundamental strength, along with its current price levels are already compelling to make this a stock that you would be smart to pay attention to, and to start thinking about the point where a conservative, long-term position would make sense.
Fundamental and Value Profile
Alaska Air Group, Inc. is the holding company of Alaska Airlines (Alaska), Virgin America Inc., Horizon Air (Horizon) and other business units. The Company operates through three segments: Mainline, Regional and Horizon. Its Mainline segment includes Alaska’s and Virgin America’s scheduled air transportation for passengers and cargo throughout the United States, and in parts of Canada, Mexico, Costa Rica and Cuba. Its Regional segment includes Horizon’s and other third-party carriers’ scheduled air transportation for passengers across a shorter distance network within the United States under capacity purchased arrangements (CPAs). Its Horizon segment includes the capacity sold to Alaska under CPA. Alaska and Virgin America operate fleets of narrowbody passenger jets. As of December 31, 2016, it maintained two frequent flyer plans: the Alaska Airlines Mileage Plan and the Virgin America Elevate. ALK has a current market cap of about $7.5 billion.
- Earnings and Sales Growth: Over the last twelve months, earnings declined almost -15%, while revenues improved a little over 4%. The picture improved in the last quarter, as earnings increased 15%, while sales increased 2.6%. The company’s margin profile is an indication of stability and strength, as Net Income as a percentage of Revenues over the last twelve months was nearly 9.8%, and was maintained at that level in the last quarter.
- Free Cash Flow: ALK’s free cash flow is healthy, at $555 million over the last twelve months and translates to a Free Cash Flow Yield of 7.4%.
- Debt to Equity: ALK’s debt/equity ratio is conservative, at .44. It has also decreased almost 20% over the last two quarter. As of the last quarter, the company reported almost $1.4 billion in cash and liquid assets against about $1.7 billion in long-term debt. Their healthy margin profile means that operating profits are more than adequate to service the debt they have, while they also have good liquidity to provide additional flexibility.
- Dividend: ALK’s annual divided is $1.28 per share, which translates to a yield of 2.1% at the stock’s current price.
- Price/Book Ratio: there are a lot of ways to measure how much a stock should be worth; but one of the simplest methods that I like uses the stock’s Book Value. ALK has a Book Value of $30.78. That translates to a Price/Book value of 1.97, against a historical average Price/Book ratio of 3.24. That means that ALK is undervalued by almost 39%. That puts the stock’s long-term “fair value” target price just a little under $100 per share.
Here’s a look at the stock’s latest technical chart.
- Current Price Action/Trends and Pivots: ALK’s price decline since the end of November is impressive and marks a drop of 20% over that period. The stock is currently sitting very near to multi-year low levels, with what has proven to be very strong historical support around $57. The stock’s all-time high is around $100 and was last seen in early 2017. In order to begin building any kind of sustainable bullish trend, the stock would need to move above the $65 level, which is where I believe the nearest and most immediate resistance lies based on previous pivot highs around that level. A break below support at $57 could see the stock test lows between $45 and $48 that were last seen in mid-2014.
- Near-term Keys: Given the strength of the stock’s downward trend, and the overall tone for the last three months in the broad market, any kind of short-term, bullish bet on ALK can only be categorized as speculative right now. There is also not a good basis for a short-term bearish trade on the stock right now, unless it manages to break below the major support it has shown in the $57 price area. A drop below $57 should be taken as a strong bearish signal and could provide an interesting opportunity to short the stock or work with put options. While I don’t think the stock is done dropping quite yet, the value proposition is already more than good enough to warrant serious consideration for a long-term position in a very good company, If the stock does keep dropping, that bargain status is only going to get better.