The International Consolidated Airlines Group (LSE:IAG) share price stood at £2.06 on Tuesday (1 October). As I write, it’s at £1.93 – down almost 7%.
Things had been looking good for the UK’s flagship carrier as travel demand had been showing encouraging signs. But things have turned around sharply in the last couple of days.
The news
News that Iran has launched an attack on Israel is bad news for a number of reasons, many of which have nothing to do with investing. But it has also sent oil prices higher, which presents a problem for airlines like IAG.
Fuel’s one of the company’s biggest costs. Furthermore, it’s one that the business can’t do much about directly – prices are largely beyond their control.
The airline can try to offset this by increasing prices to customers. But that comes at the risk of causing them to either look for cheaper alternatives, or rethink their travel plans entirely.
Oil volatility’s a risk with the business. But with the shares having fallen due to a sudden surge in oil prices, investors might be wondering whether that risk is now priced in.
Cyclicality
At a price-to-earnings (P/E) ratio below 5, the stock looks cheap compared to the rest of the FTSE 100. But things aren’t quite so straightforward.
IAG’s earnings are highly cyclical. And when the economic environment isn’t favourable, they don’t just drop 10% – they can fall more than 100%.
IAG earnings per share 2014-24
Created at TradingView
The Covid-19 pandemic’s a good example of this. But while this is (hopefully) likely to be a one-off event, there’s plenty more that can disrupt earnings for an airline.
This means it’s not as straightforward as saying the stock’s cheap because it trades at a low P/E multiple. The stock might still be expensive if earnings are at a high point in the cycle.
Valuation
In assessing IAG shares, I’m looking for something that gives me a more durable sense of how expensive the stock is. And I think the price-to-book (P/B) ratio‘s a good metric to use.
While the airline’s earnings have been volatile, its book value – the difference between its assets and its liabilities – has been relatively stable. So how do things look from this perspective?
IAG P/B ratio 2014-24
Created at TradingView
IAG’s P/B ratio’s fluctuated over the last 10 years, reflecting volatility in the company’s share price. But it’s towards the lower end of the range at the moment.
In other words, I think the stock’s as cheap as it has been in a while right now. So for investors who like the underlying business, this could be a good time to take a look.
Is this a buying opportunity?
Investing in cyclical stocks when the market’s fixated on near-term issues can be very rewarding. And the threat of higher fuel costs is a good example of this for an airline like IAG.
Working out when these companies are cheap isn’t always straightforward. The P/E ratio can highly misleading with businesses that routinely make losses when things turn the wrong way.
The latest drop however, has put the IAG share price makes the stock relatively cheap to where it usually trades. But that’s not to say it can’t fall further from this point.
