Airlines: After the COVID Nosedive

Fixed income

Airlines: After the COVID Nosedive

The challenges ahead for airlines are real, but there are reasons to invest selectively now.

Almost exactly six months ago, air travel as the public knew it changed forever due to the outbreak of COVID-19. The unprecedented closing of international borders, as well as quarantines and other “shelter-in-place” restrictions, caused global air travel demand to decline more than 90% at its nadir in April 2020.

Since then, demand for air travel in the US has slowly begun to take off thanks to a resilient appetite for leisure travel to domestic vacation destinations and “visiting friends and relatives” traffic. Currently, international travel remains weak and down more than 85% from 2019 levels as air travel restrictions remain intact, with 85 countries still completely closed. Hence, more than 65% of the global wide-body fleet, including almost the entire commercial fleet of double-decker A380 aircraft, is parked either temporarily or, potentially, permanently.

Exhibit 1: Air Travel Restrictions Remain Intact With 85 Countries Still Completely Closed

Source: © International Air Transport Association, 2019. Covid-19 Travel Regulations Map. All Rights Reserved. Available on IATA Economics page. As of 21 Sep 2020. 

In early March 2020 as the pandemic began to spread around the world, the market began to reprice every investment security related to an airline or aircraft financing. In January and February 2020, prior to the pandemic outbreak, the spread relationship between unsecured and secured airline bonds had tightened to less than 150 bps, which is well inside of the historical average spread of more than 300 bps. For example, in mid-February 2020 (aka the “pre-pandemic era”), American Airlines issued a $500 million senior unsecured bond due in 2025 with a coupon of 3.75% at a spread of +239 bps over Treasuries—this was less than 150 bps wide of the most senior secured tranche of a 5-year equivalent American Airlines secured EETC bond. By the latter half of March 2020, the aforementioned American Airlines 3.75% unsecured bond was trading at distressed levels well in excess of 3,200 bps, or 32 cents on the dollar, as the market priced in a complete collapse of the global airline industry.

Western Asset has been an active investor in the airline sector for more than two decades with a seasoned team of analysts who have endured multiple market cycles, including 9/11 and SARS. As a result, we have developed robust financial models and excellent relationships with the various airline management teams. Because we consider the airline sector to be highly cyclical, in early 2020 we fundamentally viewed valuations on both secured and unsecured airline bonds to be very rich on an absolute and relative basis. Given that assessment, we were underweight the airline sector heading into the current pandemic crisis. As you can see in Exhibit 2, both the investment-grade and high-yield rated airline sectors are some of the worst performers in the Bloomberg Barclays High Yield Index on a YTD basis due to the significant underperformance in March and April 2020.

Exhibit 2: Airline Sector Returns for Investment-Grade and High-Yield Debt

Source: Bloomberg Barclays. As of 31 Aug 2020.. Past performance is no guarantee of future results. Indexes are unmanaged, and not available for direct investment. Index returns do not include fees or sales charges. This information is provided for illustrative purposes only and does not reflect the performance of an actual investment.

Beginning in late April 2020, some of the US legacy carriers, such as Delta Airlines, were able to issue secured debt backed by mission-critical intangible assets, such as routes, slots and gates. This was necessary to bolster their overall liquidity given the uncertainty and potential turbulence ahead. Hence, over the past six months, our team of tenured analysts has carefully analyzed each airline deal from both a fundamental and structural perspective to select the best performing deals issued by the fundamentally strongest airlines that have the longest liquidity runways, including unencumbered assets.

Our decision to selectively invest in the highly cyclical airline sector in the middle of a pandemic was further bolstered by the fact that the US airline industry is essential and critical to domestic infrastructure for the movement of people and goods. In fact, the CARES Act passed in late March 2020 provided the US airlines with $50 billion of financial assistance that consisted of $25 billion of grants and 5-year unsecured loans at a rate of L+100 bps until April 2025, as well as $25 billion of secured loans at favorable interest rates in the range of L+300 to L+350 bps. The CARES Act financial assistance prevented the industry from laying off hundreds of thousands of employees through September 30, 2020, when the layoff restrictions will expire. However, the government financial assistance program also contained certain stipulations, such as no forced layoffs, no dividends or share buybacks, as well as limits on executive compensation and minimum service levels to certain cities. In addition, the Treasury required each airline to issue equity warrants that could potentially provide the Treasury with some equity upside. Earlier this summer, the US airlines received the grants and unsecured loans from the Treasury Department, although each airline is still negotiating the terms of the secured loan program with Treasury Secretary Steven Mnuchin and his team. However, very few airlines are expected to accept the terms of the secured loans as most of them, including Southwest, Delta and Spirit, that are able to access the public markets with terms that are less onerous, although at a slightly higher cost of capital. Since March 2020, the US airlines, including Alaska, American, Delta, Hawaiian, JetBlue, Southwest, Spirit and United, have opportunistically issued more than $50 billion of mostly secured debt. The debt includes EETCs, secured bonds and secured bank debt, which have effectively extended those airlines’ liquidity runways by 12 to 24 months.

Looking ahead, the aviation industry still faces a number of headwinds as a result of low demand that we believe will not change in a significant manner until an effective therapeutic or widely distributed vaccine is available. Therefore, Western Asset is selectively overweight certain secured airline bonds issued by the fundamentally strongest US airlines that possess the longest liquidity runways. We strongly believe that there is tremendous pent-up demand for air travel and, from an ESG perspective, the surviving airlines will exit the crisis with a lower cost structure, including a younger fleet of aircraft, which will also accelerate their emission-reduction targets.

High yield bonds are subject to increased risk of default and greater volatility due to the lower credit quality of the issues.


The Bloomberg Barclays U.S. Corporate High Yield Index covers the universe of fixed rate, non-investment grade debt, including corporate and non-corporate sectors. 

The Bloomberg Barclays US Corporate Bond Index measures the investment grade, fixed-rate, taxable corporate bond market.

A basis point (bp) is one one-hundredth (1/100, or 0.01) of one percentage point.

Enhanced equipment trust certificates (EETCs) are corporate debt securities secured by an airline’s planes through special-purpose companies created to own the aircraft.

The Coronavirus Aid, Relief, and Economic Security Act  (CARES Act) is U.S. legislation passed in March 2020 to address the economic fallout of the COVID-19 pandemic.

The A380 is a widely used wide-body airplane manufactured by Airbus.

The U.S. Treasury Department is responsible for issuing all Treasury bonds, notes and bills; it is responsible for the revenue of the U.S. government.

spread is the difference in yield between two different types of fixed income securities with similar maturities; usually between a Treasury or sovereign security and a non-Treasury or non-sovereign security.

ESG (environmental, social and governance) refers to an investment philosophy which takes into account the impact of policies in these three areas by the issuer of an investment.


Important Information


All investments involve risk, including possible loss of principal.

The value of investments and the income from them can go down as well as up and investors may not get back the amounts originally invested, and can be affected by changes in interest rates, in exchange rates, general market conditions, political, social and economic developments and other variable factors. Investment involves risks including but not limited to, possible delays in payments and loss of income or capital. Neither Legg Mason nor any of its affiliates guarantees any rate of return or the return of capital invested. 

Equity securities are subject to price fluctuation and possible loss of principal. Fixed-income securities involve interest rate, credit, inflation and reinvestment risks; and possible loss of principal. As interest rates rise, the value of fixed income securities falls.

International investments are subject to special risks including currency fluctuations, social, economic and political uncertainties, which could increase volatility. These risks are magnified in emerging markets.

Commodities and currencies contain heightened risk that include market, political, regulatory, and natural conditions and may not be suitable for all investors.

Past performance is no guarantee of future results.  Please note that an investor cannot invest directly in an index. Unmanaged index returns do not reflect any fees, expenses or sales charges.

The opinions and views expressed herein are not intended to be relied upon as a prediction or forecast of actual future events or performance, guarantee of future results, recommendations or advice.  Statements made in this material are not intended as buy or sell recommendations of any securities. Forward-looking statements are subject to uncertainties that could cause actual developments and results to differ materially from the expectations expressed. This information has been prepared from sources believed reliable but the accuracy and completeness of the information cannot be guaranteed. Information and opinions expressed by either Legg Mason or its affiliates are current as at the date indicated, are subject to change without notice, and do not take into account the particular investment objectives, financial situation or needs of individual investors.

The information in this material is confidential and proprietary and may not be used other than by the intended user. Neither Legg Mason or its affiliates or any of their officer or employee of Legg Mason accepts any liability whatsoever for any loss arising from any use of this material or its contents. This material may not be reproduced, distributed or published without prior written permission from Legg Mason. Distribution of this material may be restricted in certain jurisdictions. Any persons coming into possession of this material should seek advice for details of, and observe such restrictions (if any).

This material may have been prepared by an advisor or entity affiliated with an entity mentioned below through common control and ownership by Legg Mason, Inc.  Unless otherwise noted the “$” (dollar sign) represents U.S. Dollars.

This material is approved for distribution in those countries and to those recipients listed below. Note: this material may not be available in all regions listed.

All investors and eligible counterparties in Europe, the UK, Switzerland:

In Europe (excluding UK and Switzerland), this financial promotion is issued by Legg Mason Investments (Ireland) Limited, registered office 6th Floor, Building Three, Number One Ballsbridge, 126 Pembroke Road, Ballsbridge, Dublin 4, D04 EP27. Registered in Ireland, Company No. 271887. Authorised and regulated by the Central Bank of Ireland.

All Qualified Investors in Switzerland:
In Switzerland, this financial promotion is issued by Legg Mason Investments (Switzerland) GmbH. Investors in Switzerland: The representative in Switzerland is FIRST INDEPENDENT FUND SERVICES LTD., Klausstrasse 33, 8008 Zurich, Switzerland and the paying agent in Switzerland is NPB Neue Privat Bank AG, Limmatquai 1, 8024 Zurich, Switzerland. Copies of the Articles of Association, the Prospectus, the Key Investor Information documents and the annual and semi-annual reports of the Company may be obtained free of charge from the representative in Switzerland.

All investors in the UK:
In the UK this financial promotion is issued by Legg Mason Investments (Europe) Limited, registered office 201 Bishopsgate, London EC2M 3AB. Registered in England and Wales, Company No. 1732037. Authorized and regulated by the Financial Conduct Authority. Client Services +44 (0)207 070 7444

All Investors in Hong Kong and Singapore:

This material is provided by Legg Mason Asset Management Hong Kong Limited in Hong Kong and Legg Mason Asset Management Singapore Pte. Limited (Registration Number (UEN): 200007942R) in Singapore.

This material has not been reviewed by any regulatory authority in Hong Kong or Singapore.

All Investors in the People's Republic of China ("PRC"):

This material is provided by Legg Mason Asset Management Hong Kong Limited to intended recipients in the PRC.  The content of this document is only for Press or the PRC investors investing in the QDII Product offered by PRC's commercial bank in accordance with the regulation of China Banking Regulatory Commission.  Investors should read the offering document prior to any subscription.  Please seek advice from PRC's commercial banks and/or other professional advisors, if necessary. Please note that Legg Mason and its affiliates are the Managers of the offshore funds invested by QDII Products only.  Legg Mason and its affiliates are not authorized by any regulatory authority to conduct business or investment activities in China.

This material has not been reviewed by any regulatory authority in the PRC.

Distributors and existing investors in Korea and Distributors in Taiwan:

This material is provided by Legg Mason Asset Management Hong Kong Limited to eligible recipients in Korea and by Legg Mason Investments (Taiwan) Limited (Registration Number: (109) Jin Guan Tou Gu Xin Zi Di 016; Address: Suite E, 55F, Taipei 101 Tower, 7, Xin Yi Road, Section 5, Taipei 110, Taiwan, R.O.C.; Tel: (886) 2-8722 1666) in Taiwan. Legg Mason Investments (Taiwan) Limited operates and manages its business independently.

This material has not been reviewed by any regulatory authority in Korea or Taiwan.

All Investors in the Americas:

This material is provided by Legg Mason Investor Services LLC, a U.S. registered Broker-Dealer, which includes Legg Mason Americas International. Legg Mason Investor Services, LLC, Member FINRA/SIPC.

All Investors in Australia and New Zealand:

This document is issued by Legg Mason Asset Management Australia Limited (ABN 76 004 835 839, AFSL 204827).  The information in this document is of a general nature only and is not intended to be, and is not, a complete or definitive statement of matters described in it. It has not been prepared to take into account the investment objectives, financial objectives or particular needs of any particular person.

Forecasts are inherently limited and should not be relied upon as indicators of actual or future performance.

The aforementioned Legg Mason entities are wholly owned subsidiaries of Franklin Resources, Inc.