Rising oil: no problem
It’s particularly remarkable to look at the trajectory of average airfares from 2007 to 2012. The average price of Brent crude skyrocketed over that period, from $72.44 in 2007 to $111.63 in 2012 (with a violent dip in 2009). Since jet fuel is the biggest cost item for most airlines, it wouldn’t be surprising to see airfares rising in tandem with fuel prices. However, nominal airfares increased just 12% from Q3 of 2007 to Q3 of 2012, even as the price of Brent crude rose by more than 50%.
Q3 Airfares vs. Average Annual Oil Prices, 2007-2012
Oil price data courtesy of the EIA.
This data again leaves out the substantial increase in non-ticket revenues, such as baggage fees. However, even if we add approximately $50 to the average ticket price to cover baggage fees, the average fare would still have risen only half as quickly as oil prices. In other words, recent increases in airfares, including bag fees, have more to do with rising oil prices than airline mergers.
What’s going on?
While airline mergers have resulted in capacity rationalization over the past few years, it hasn’t caused airfares to rise. The main effect of capacity rationalization has been preventing further decreases in inflation-adjusted airfares. Airlines benefit from mergers through cost savings and new route opportunities, which can be quite substantial: American and US Airways Group, Inc. (NYSE:LCC) expect to see $1 billion in merger synergies over the next few years.
However, in the old hypercompetitive airline industry, airlines would have given away these synergy benefits to customers by reducing airfares in the hope of gaining market share. Today, airline executives are being smarter about pricing. They’re using cost synergies to offset fuel price increases and letting the rest flow through to the bottom line. Meanwhile, average airfares have generally remained steady, after adjusting for inflation.
Conclusion
The days of the ridiculously cheap airfare may be gone. Airline executives now realize that pricing below cost is a disastrous strategy. However, consolidation hasn’t made plane tickets unaffordable. Adjusting for inflation, base fares are substantially below 1995 levels; after accounting for new fees for checked baggage and other amenities, inflation-adjusted airfares are only slightly higher than 1995 levels. Considering the substantial rise in oil prices since then, this is a very good outcome for consumers.
The article Are William Shatner and Cheap Plane Tickets Gone Forever? originally appeared on Fool.com.
Adam Levine-Weinberg is short shares of United Continental Holdings (NYSE:UAL) and also has long September 2013 $33 puts on United Continental Holdings. The Motley Fool recommends Southwest Airlines.
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