The International Consolidated Airlines (LSE: IAG) share price is still down 78% in the past five years. I think the market has got this one wrong, and I want to explain why.
Firstly, I’ll say that I don’t like airline shares in general. It’s because they don’t have any real differentiation, compete almost solely on price, and have no control over much of their costs.
It’s no surprise that Richard Branson once said that the way to become a millionaire is to start with a billion and launch an airline.
Two companies
We often see a disjoint between a share price set by the market and a stock’s real long-term value. I mean, if I didn’t believe that, I wouldn’t have bought Lloyds Banking Group shares.
To show what I mean, let me compare two stocks. I’m talking about IAG and Rolls-Royce Holdings.
The two largely depend on the same key thing, the commercial airline business. When planes are up, airlines get their ticket prices. And Rolls-Royce gets its engine sales and maintenance cash.
We’ve seen only too well what happens to both businesses when aviation grinds to a halt.
Different valuations
But since Covid faded, and bums started getting back on seats, only one of these two firms has made a big recovery.
Based on forecasts, Rolls-Royce shares are on a price-to-earnings (P/E) ratio of 31, around twice the long-term FTSE 100 average. IAG, meanwhile, is on a P/E of only 3.6.
Admittedly, Rolls-Royce has strong earnings growth in the cards for the next three years, while IAG looks a bit flat.
But still, for one stock to be valued 8.6 times higher than the other just doesn’t seem right. I’m convinced that the market has got at least one of these wrong. Possibly both.
Still risky
There’s clearly still a global threat to the aviation business, with what seems like a new conflict breaking out almost every time I read the news.
There’s a European Commission anti-competition investigation going on too, related to IAG’s Air Europa plans. That could cost the company money.
I also think that the market won’t want to value airlines too strongly in the future. I think we’ve overlooked the risks facing the industry for too long. But the past few years have really shoved them in our faces.
This is a volatile business, for sure. And it really needs to be seen with a long-term view, even more than most other stocks.
Valuation again
I often see great companies with share prices I think are just too high. That might be true for Rolls-Royce now, but it’s one I’d buy on the dips.
But there are also companies I wouldn’t usually buy, but which look really tempting when stock valuations drop too low.
I think that’s what I see now at International Consolidated Airlines. And I really might buy when I next have some investment cash lined up.
In the meantime, I’m watching out for FY results, due 29 February.
