Which airline stock should you own?

There are no hard and fast rules to investing, sometimes it doesn’t matter how much research you do, you’ll still get it wrong, but doing your due diligence will help put the odds in your favour. The airline industry is very competitive, highly regulated and can be risky.

In addition to the all-important safety concerns, there are many things investors need to consider, such as fuel prices, seat occupancy levels, competitors, financial strength and the overall prospects for the industry. Here are four of the ASX’s best and worse investing opportunities.

Australia’s biggest airline by market capitalisation is Qantas (ASX: QAN). It also holds the title of most expensive airline in terms of earnings. However, Morningstar predicts solid earnings increases in coming years, which will see that figure decline significantly. The company’s continued focus is on debt reduction and providing free cash flow.

Investors are expecting something big from the flying Kangaroo and perhaps it’s their deal with Emirates or Jetstar’s continued expansion throughout Asia. However, even with the amount of debt, slow growth and inherent risk involved, investors still don’t receive a dividend.

Number-two carrier Virgin Australia (ASX: VAH) was in the news yesterday when the ACCC said it has given tentative approval to its trans-Tasman code share with Air New Zealand (ASX: AIZ). Virgin is Qantas’ direct competitor but carries a higher debt to equity ratio, currently around 180%. Investors’ expectations are also weighing on its stock but with its EPS forecasted to decrease, it mightn’t be worth your investment.

In what seems contrary to other sectors, the smaller the airline, the higher the dividend. At current prices, Morningstar estimates the current dividend yield of Air New Zealand to be 6%. What’s more impressive about the stock is its ability to drive strong profits. For the half year to 31 December 2012 (and compared to Qantas who has a market capital over double that of Air New Zealand’s), the company boasted a profit of only $1 million less than the flying kangaroo ($111 million) and over four times that of Virgin Australia’s profit for the same period. It is also healthily valued and could represent a good buying opportunity for both income and value investors.

One of Australia’s smaller airlines, who provide services to the slowing mining industry has been hit hard by increased competition and the slowdown of many FIFO mining contractors. Regional Express (ASX: REX) or Rex, is having a tough time breaking into bigger markets but is a solid regional carrier that provides services to many smaller airports and holds the largest amount of NSW regionals slots at Sydney airport.

EPS is expected to decrease by around 30% in the coming year as a result of the slowdown but investors shouldn’t write it off. Perhaps the watchlist is the best spot for Rex until we can analyse the next annual due out in coming months.

Foolish takeaway

Investing in airlines is tough. Valuing these stocks is tricky because of the dynamic nature of seat occupancies, cost increases and regulatory changes. It’s also hard to find unloved stocks because what affects one, usually affects all.

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Motley Fool contributor Owen Raszkiewicz owns shares in Air New Zealand.

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