Our experts offer valuable analysis and insight on current trends, developments and key market indicators in this market update.
Some of the topics discussed include:
- Macroeconomic factors and market effects
- Which assets will perform well in 2020 and which will face headwinds?
- Which airlines and/or regions should lessors and investors be concerned with in 2020?
- Review of 2019 OEM performance
- Trading volumes
- Lease end & fleet estimates
- Values and Lease Rates
Webinar Synopsis – IBA’s 2020 Market Update
After a turbulent end to 2019, we’re today looking ahead towards anticipated aviation market behaviours and trends for the forthcoming year. Firstly, we’ll present an overview of 2019’s global macroeconomic situation, including an analysis of GDP and interest rates; oil prices; currency performance; traffic performance and lease yields.
We’ll go on to:
- Consider some causes and effects of the unparalleled number of airline failures witnessed last year
- Investigate OEM performance, evidently against the background of the catastrophic MAX grounding
- Focus on aircraft retirement patterns, both following airline failure and naturally occurring
- Assess narrowbody and widebody lease end events
- Discuss our expectations for trading and leasing activity
- Gauge the impact of airline failures on the ABS market, 2019 being a record year for ABS transactions
- Evaluate storage activity
- Demonstrate narrowbody and widebody lease rate behaviours over the long-term before drilling down to investigate specific trading and leasing transaction performance in 2019
GDP and interest rates
The global macroeconomic picture splits distinctly into the market dynamics of advanced economies and emerging economies, with most of the slowdown we anticipate affecting advanced markets. Although there are always variables within the numbers, sometimes significant, we foresee US GDP growth slowing to 1.8% from 2.3% and to 1% from 1.2% in the Euro area. Brexit uncertainty lingers and though we did see a shift in December following the general election there was a subsequent bounce back.
In the emerging markets, we expect 4.6% growth from 3.9% across the board, Brazil standing out with growth doubling from 1% to 2.2%. India’s figures caused quite a stir but the numbers should be viewed with caution due to some politicisation which makes their quality questionable.
Though we expected a slowdown in 2019, overall performance is likely to be worse than anticipated across all regions for many reasons including geopolitical risk and trading issues. The US/China trade tensions had between a 0.8% and 1% effect on GDP but the countries are now moving through stage one of a trade agreement and we expect its positive results to gather pace during Q1 and Q2 of 2020. Climate change gained much more press coverage and societal interest in 2019 and concern will continue to escalate. The two interest rate rises we forecast for last year in fact became three interest rate cuts.
Although there were plenty of spikes in the oil price in 2019, the bandwidth was fairly tight and this year we predict demand falling as the economy slows. Oil remains a strong political weapon but generally speaking tensions between the US, OPEC and Russia have subsided so we expect prices to settle.
Whilst most currencies are expected to weaken against the dollar as the US presidential elections approach, they are likely to perform slightly stronger than in 2018 with some, such as the yen and sterling, pushing above the dollar. Argentine’s woes will persist. Even a 10% variance in exchange rates is enough to create problems in terms of fuel and maintenance costs, reserve rates and lease rates and the fluctuations will hit domestic and smaller operators hardest.
Through IATA and others, we experienced improving load factors though deliveries were lower than we expected a year ago. We revised growth down from 5% to 4.3% and foresee a similar picture for 2020, much of the revenue coming from the US market. Domestic markets showed strong performance driven by China and although 2019 was a dreadful year for the freight market, we anticipate the decline slowing as trade disputes are settled before the US election. It is worth pointing out that many things can affect revenue on a relatively short-term basis. For example, the Rugby World Cup in Japan last October.
2019 witnessed a large decline in yields for premium traffic and we anticipate a further 10% drop across the board for 2020 taking yields down to the low 60s. They remain too low for sustainable profitability outside the US market while the dollar’s strength persists.
GDP will be stable. It is very difficult to predict the Brexit effect on UK and European performance as there are multiple viewpoints to consider but we expect the process to be relatively painful.
Low interest rates will spark investor interest in leases, ABA instruments, freight conversion, parts and MRO. We expect oil to be static and demand to fall in line with GDP. However, the MAXs already delivered and those coming off the production line will re-enter the system eventually and capacity will be boosted. Airbus’ production rate increases will also filter through.
2019 was a dramatic year for failures, not necessarily in terms of airline numbers but rather the number of aircraft. In fact, it was the worst year in history with 27 operators ceasing operations or going into administration. We may see the return of some aircraft but not in significant numbers, the record 430 aircraft affected far higher than the 380 seen in 2011. Lease defaults were substantially higher in 2019 involving failed airlines but also in general with many friendly repossessions. Lessors were more inclined to take action to repossess as soon as issues became apparent.
The worst culprits were Jet Airways (119), Avianca Brazil (59), Thomas Cook (46) and Germania (28). Influential factors include rising costs driven by oil, labour and the foreign exchange markets and other reasons cited related to the lack of availability of new technology, inadequate business models, weaker tourism demand, the weather and, for the very first time, flight shaming. Hong Kong and South African Airlines continue to be vulnerable to failure and the doubt hanging over Norwegian for the last three years will remain. Of course, FlyBe was just yesterday bailed out. South East Asia and Argentina both present weaknesses.
We expected 2019 to be challenging with lower orders and higher cancellations but the reality was far worse, primarily due to the MAX grounding. Though there was a knock-on increase in demand for the 777-800 and A320, both OEMs performed poorly despite the final push in the last three months of the year we’ve come to expect from Airbus.
Boeing’s start to 2019 was positive but on top off the catastrophic MAX situation they made no further progress on the 777X. The lacklustre widebody market was not cheered by a good number of orders for 787s.
The regional space saw little good news, the ATR especially struggling in the secondary market but the greater fuel efficiency of this and the Dash 8 could result in a resurgence of interest due to the global environmental push against commercial aircraft.
A ridiculous backlog of 13,000 persists just between Airbus and Boeing though 2019 was the first year in a decade to see the backlog reduce. There is an order gap of 1,600 between the neo and the MAX which Boeing obviously can’t close until approvals are granted but we do expect the backlogs to decline in 2020.
Looking specifically at Airbus production, cumulative monthly deliveries were up on 2018. The full year delivery rate for the A320 family was around 53.5, a sustainable 57 if we omit the slow January and February months, and Airbus are in a strong position to increase production rates further to 63.
Boeing’s situation was totally overshadowed by the MAX grounding, 385 aircraft parked around the world and 400 more built and parked in the US awaiting certification. Inevitably, huge reputational damage through negative press coverage will have to be repaired. The MAX’s return to service will be dictated by the timing and sequence of approvals and retraining programmes but we also need to factor in pilot and consumer acceptance and confidence. Their communication will have to be spot on.
The picture here pretty much followed that which we saw in 2018 although airline failures did trigger early retirements for some A319s and older A320s due to oversupply. Even some A319s as young as nine and a half were retired. Widebody retirements were strangely sharply down whilst those of regional jets, conversely, jumped dramatically with remarkably young aircraft (six years old) being retired.
We foresee retirements increasing in 2020 as demand decelerates. Stored equipment will be scoured for components, OEMs will ramp up production and the MAX will get back on track over the next two years. Safeguarding the environment will become an ever more pressing concern. Freight demand for the 737-800 and A321 will absorb the best surplus and start-ups may exploit the supply of cheap A330s.
Narrowbody Lease Ends
Although 742 lease ends are considerably higher, the numbers do equate almost identically to the figures for failures so the true picture is pretty static. Adjusting for failures, A320ceo and 787-800 lease ends remained low with extensions ranging from one to four years with some lease ends delayed rather than extended.
Leasing continues to grow with the fleet and remains a strong tool for lifting the wide operator base. As more lessors enter the space, pricing will suffer. Extensions were useful for enabling operators to get through a difficult period when they couldn’t rely on new technology but weaker lessors are insufficiently robust to deny lessee demands for rate reductions.
Widebody Lease Ends
Widebody lease ends were far slower than we anticipated due to the small number of 767, 777 and older type termination events. Only half the expected 777-300ER lease ends occurred as a few Emirates, all eight of the Jet Airways and one Cathy returned to lessors.
The widebody lease end pipeline is considerably flatter than that for narrowbodies. Lessors tend to shy away from increasing their widebody portfolios as secondary lease placements are tricky and configuration costs high. Established lessors will happily bear a 10% widebody exposure whilst those less experienced will accept greater risk.
The number of trades performed was sharply down in 2019, the lowest for six years. Sale leasebacks were 47% down on 2018 numbers as poor yields continued and MAX deliveries ceased. Sales with leases were 41% lower since the combination of low yields and high prices makes little sense for investors but, conversely, ABS deals were 12% higher.
The usual suspects top the list of trades: the A320ceo and 737-800 make up around 25% of all transactions. Taking into account current low interest rates, we might expect greater sales activity but robust pricing and poor yields are resulting in fewer trades. Reappearance of the MAX will shake things up somewhat.
New leases were down to 2016 levels last year in the face of a lack of opportunity for sale leaseback deals in the absence of the MAX. As with trades, the A320ceo and 777-800 are favoured, making up around 26% of new leases and terminations. Lease terminations were significantly higher because of airline failures but they continued to be outpaced by starts.
ABS Activity and Airline Failures
2019 was a record year for ABS deals both in terms of numbers of aircraft and numbers of structures. A total of 17 commercial aircraft structures were launched (that is, not solely engines) including new entrants to the market. Alongside the highest number of deals, however, came the most airline defaults within ABS structures with 36 aircraft last year.
Caution needs to be practised and the concentration risk of vulnerable lessees within ABS instruments explored. 15 aircraft out of Jet Airways’ fleet of 120 and six of Thomas Cook’s 34 were part of ABS structures.
Storage levels, at a five-year high, are clearly feeling the effects of the MAX grounding. In production aircraft such as the A320ceo, 737NG and 737 MAX number around 1,200 with in production widebodies holding at 400. A further 800 older narrowbodies are also parked. Return of the MAX will send NG levels higher in line with the A320ceo family. Stored A330s were 50% up last year due to higher defaults but demand should grow with lower lease rates.
Long Term Lease Rate Performance
New aircraft leases tend to follow interest rates fairly steadily but the higher number of lessors in the market has pushed rates down. Prior to the MAX grounding, lease values ranged from the mid 200s to the mid 300s with lease rate factors dropping from their usual level of around 0.6% due to overcapacity. Recovery will be influenced by oil and new equipment availability but the number of lessors in the market, the number of OEMs competing against lessors, low interest rates and more investors entering the space will result in the downward pressure on rates continuing.
The apathy we saw seeping into the widebody market coincided with an oil price drop at the end of 2014 and this disinterest lingers. Fuel pricing has the greatest effect on widebody economics and large orders surface as new aircraft are launched and oil prices increase. These new options will come down to the A330neo, 787, A350 or the 777X. The shift away from larger variants looks set to continue.
Long term Lease Rate Performance: A330-300 example
The widebody market is less fluid than that for narrowbodies, has fewer lessors and is dominated by sale leasebacks for new deliveries. Since 2015, an accumulation of bankruptcies, fleet management decisions, young lease ends and more equipment being stored has sent lease rates into a nosedive. Aircraft are being placed with operators taking advantage of the low rates and high capability of the aircraft, relatively young equipment being secured at rates normally reserved for much older assets.
IBA is carefully scrutinising where values are as there are so few transactions involving, for example, three-year-old aircraft feeding into the data as opposed to brand new aircraft or 12-year-olds.
Value and Lease Rate Changes through 2019
Here we give specific examples of values and lease rates by aircraft model. There is a huge difference between twin aisle and single aisle aircraft, the former in general suffering a fall in values and lease rates whilst single aisle models perform far better.
The single aisle A321-200, the largest member of the family, showed particular strength with encouraging lease rates and some passenger to freight activity. The 737-700 and 800 both enjoyed healthy demand.
Twin aisles saw mainly negative performance with mid-life and older A330s in particular hit by big decreases. The A350-900 new build values held as did those of younger 777s whilst older models experienced falls.
Amongst regional jets, performance last year was good, the E175 especially attracting strong demand due to a lack of availability. Finally, we expect 2019’s bleak picture for turboprops to brighten in 2020.
Outlook for 2020: The Key Points
- We expect oil to be stable though, with falling yields, markets will need buoyancy to survive. Exchange rates will continue to create headwind for those outside the US and we foresee demand in developed economies slowing as capacity increases significantly
- Further failures are on the horizon but the rate will decelerate. South African Airlines and Hong Kong Airlines will probably need to restructure to survive and the future of Norwegian is still uncertain
- Airbus’ performance in 2019 was better than expected whilst Boeing was knocked by the MAX catastrophe. Some expect its return to begin at the end of Q1 with others predicting a longer re-entry
- The depressed trading we’ve witnessed over recent years due to low yields and high prices will be helped by return of the MAX to stimulate sale leaseback activity. This in turn will encourage other trades and we predict 2020’s market will be more bullish
- Subject to greater due diligence over the quality of lessee credit and risk concentration within the structures, we expect the ABS market to perform strongly. Version 3.0 remains popular and despite high numbers of defaults last year, the failures were well managed within the structures
- Lease rates across the board were down due primarily to an overabundance of lessors
- We anticipate price correction for older widebodies as storage levels reach record numbers and poor yields highlight unjustifiable book values
Today’s session used data from IBA.iQ, our unique online data intelligence platform. The system includes various modules such as Fleets, Values, Trends and Engines and we are currently offering free trials. If you’d like to have a look around, you can register via our website or through the link on the slides we’ll send through to you.