This Undervalued Airline ETF Provides a Rare Value Opportunity in Today’s Markets

August 10, 2016 9:39am NYSE:JETS

airplane-1480118-640x480From Grant Wasylik: In a market where nearly every asset looks overvalued, finding a diamond in the rough is difficult. But with airline stocks trading at low multiples despite higher volumes and lower fuel costs, a certain airline ETF may just fit the bill.


It’s tough to find anything cheap in the stock market right now.

U.S. equities have been on an incredible tear over the last seven-plus years.

Just look at the return of the Vanguard Total Stock Market ETF (VTI) since the bottom of the financial crisis on March 9, 2009 …


Source: YCHARTS

[Note: VTI tracks the performance of the CRSP U.S. Total Market Index (CRSP stands for Center for Research in Security Prices). The ETF covers 3,650 large-, mid-, small- and micro-cap stocks. Basically, it mimics the investment return of the overall U.S. stock market.]

As the chart shows, the broader U.S. stock market is up almost 300%!

It shouldn’t be surprising that most stocks range from fairly valued … to slightly overvalued … to vastly overvalued.

According to multpl.com, the S&P 500’s current P/E ratio is 25.2 (historical average of 15.6). And if you’re a fan of the Shiller CAPE (Cyclically Adjusted P/E Ratio) ratio, it’s at 27 (historical average of 16.7).

My colleagues at The Leuthold Group, one of the world’s top institutional research firms, take valuation rankings to an extreme. Instead of using just a simple P/E ratio, they base their ranking on the median of 50 valuation measures! The market historians at Leuthold place today’s stock market in the 8th decile. (10th being the most expensive.)

For a stock investor, this means it’s tough to find good companies trading at discounted prices.

Put simply: It’s slim pickings for value investors.

But there’s one particular industry that’s on sale right now. And I think it’s a great place to pick up some solid stocks on the cheap …

Airlines.

Mark Yusko is a famous money manager who advises pension funds, endowments and wealthy investors. He called this industry “stupid-cheap” a month ago.

Yusko is the founder, CEO and CIO of Morgan Creek Capital Management. (His firm, which launched in 2004, has over $3 billion in assets under management.) Before that, he served as CIO of The University of North Carolina–Chapel Hill’s endowment office from 1998 to 2004. And prior to that, Yusko was Senior Investment Director at the University of Notre Dame’s investment office from 1993 to 1998.

Being an experienced endowment model practitioner, he has his finger on the pulse of all asset classes.

So, when he says something is “stupid-cheap,” I pay attention.

His bullish case for airlines:

 Selling at single-digit P/E ratios

 Possess strong earnings power

 Have increased volume

 Better on capacity utilization and planning (when was the last time you sat next to an empty seat on a flight?)

 Depends on oil as an input cost (he thinks oil prices will stay low)

Plus, he’s not the only smart money manager who likes the airline industry. I had a conversation with another hedge fund manager friend of mine a couple weeks ago. He also pointed to airlines as one sliver of relative value in today’s frothy market.

Now, to be fair, most people hate airlines — whether it comes to flying or investing.

On the investment side, some of that hatred goes back to 2005-’08. During that time, 70% of the U.S. airline industry was operating under Chapter 11 bankruptcy protection. Even the most-famous investor of all time hates airlines. Warren Buffett got burned on them decades ago. So, he’s condemned airline investing ever since.

But, the industry has come a long way since then Buffett’s bad experience and the 2005-to-2008 period…

Fundamental changes such as consolidation, new revenue streams, additional seating and better fuel efficiency have aided investment results.

For example, as of April 2015, the airline industry was the best-performing industry in the industrials sector over one-, three- and five-year periods.

And while airlines have improved both their top- and bottom-line growth, they have also ramped-up the money they’re returning to shareholders. Recently, shareholder friendliness has shown up in the form of large share repurchases and big dividend hikes:

 American Airlines Group (AAL) repurchased more than 50 million shares, worth $1.7 billion or 10% of its market cap, in the second quarter.

 Southwest Airlines (LUV) has a three-year dividend growth rate of 102%.

 Delta Air Lines (DAL) just raised its quarterly dividend by 50% on July 29.

Mix in low — and possibly lower oil — prices (an airline’s biggest cost) … the potential for Zika virus fears to subside (similar to what happened with Ebola fears in late 2014-early 2015) … the “stupid-cheap” factor … PLUS the various airline company improvements mentioned above … and there’s a nice setup forming for airline stocks to fly higher.

And thanks to the advent of ETFs, there’s a really simple, one-stop-shop way to gain access …

The U.S. Global Jets ETF (JETS).

This ETF is the brainchild of Frank Holmes (CEO and CIO of U.S. Global Investors). I spoke to Frank and here’s what he told me on how his idea came to fruition:

“Being a global traveler, I saw the cost of tickets rising along with fewer options to fly between both cities and countries. I told myself, something is happening here, and discovered the cash flow reversal was in place. From $100-per-barrel oil, now to $40-per-barrel oil, it’s a game-changer.”

U.S. Global launched JETS on April 30, 2015.

It tracks the U.S. Global Jets Index, which captures the performance of global companies in the commercial airline, aircraft manufacturing, and airport & terminal services industries.

In true “smart beta” form, this ETF doesn’t weight holdings by just plain-vanilla market cap. It also blends in passenger load factor, cash flow return on invested capital, sales growth, gross margin and sales yield.

JETS has 33 holdings, which span five continents.

Here’s a snapshot of its top 10 holdings, which account for more than 70% of the entire portfolio:


Source: U.S. Global ETFs 8/2/16

You’ll see names like American, United Continental (UAL), Delta, Southwest, Alaska Air (ALK),Virgin America (VA)JetBlue (JBLU) and more on this list.

There are also a few non-airline stocks mixed in. But, you won’t see them above — they have smaller weights. Names like Boeing (BA) and General Dynamics (GD).

However, this ETF is primarily an airline stock fund. Over 90% of its exposure comes from strict airline stocks.

That’s exactly what an investor would want if making a bullish bet on an industry, as a whole.

As you should expect by now, JETS is cheap. Its P/E ratio is 4.9. (80% cheaper than the S&P 500!)

 

JETS Facts

Assets:

$42M

Inception Date:

4/30/15

Expense Ratio:

0.60%

Holdings:

33

Dividend Yield:

0.7%

With JETS, you get a low expense ratio of 0.60% (a $10,000 investment would cost $60 in annual expenses) … one-click access to a broad basket of airline stocks … and instant exposure to an undervalued industry.

I learned about JETS at The World’s Largest ETF Conference (“Inside ETFs”) earlier this year. This ETF was one of the eight finalists for “The People’s Choice for New ETF of 2015.”

Dave Nadig, FactSet’s Director of ETFs, presented the pick. I know Dave. It’s hard to find someone who knows more about ETFs than he does.

So, JETS is a great way to invest in a future resurgence in airline stocks. (Incidentally, if you wanted to get exposure to the industry with a smaller capital requirement, JETS has listed options available.)

Last year, at about the same time, JETS rose as much as 20% in the second half of the year. (The Dow Jones U.S. Airline Index rose about 25%-30%.) We could see a similar progression in the second half of this year.

In other words …

This ETF is cleared for takeoff. And once it gets off the ground, it could rise much more than 20% to 30%, over time.

To watch a short five-minute video presenting U.S. Global’s investment case for JETS — and airlines, in general — click here. And to learn more about the U.S. Global Jets ETF (JETS), click here.

The U.S. Global Jets ETF (NYSE:JETS) was flat in premarket trading on Wednesday at $22.19 per share. JETS has fallen 10.96% year-to-date, versus a 7% gain in the benchmark S&P 500 index.

This article is brought to you courtesy of Uncommon Wisdom Daily.


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