Coronavirus (also referred to as Covid-19) has placed us in totally unprecedented territory; its effects are not localised or industry-specific but touch all aspects of our lives. Government interventions to protect businesses and society will be considerably more widespread than in previous downturn-triggering events, so what happens next is not necessarily what we would ‘normally’ predict.
In less unpredictable times, the ‘normal’ pattern is that as traffic demand slows and costs rise, airlines fail, supply increases and values fall. In the current environment, traffic demand has literally collapsed overnight and, logically, airline failures should follow. However, assuming virus spread is contained within the next 3-4 months, and as long as the level of pledged government/state support and the emergency measures imposed by companies worldwide become reality, we could see a resurgence in demand as unparalleled as its dramatic descent. The bulk of the fleet could be up and running and earning once again much sooner than if the Covid-19 crisis was a normal recession trigger. Additional factors such as low oil pricing, reduced taxation and a temporary removal of levies like Air Passenger Duty, as well as the effect of cabin fever, should help to stimulate a resurgence in travel.
That being said, businesses that are already operating below the line will remain exposed and will be the headline casualties of the post-summer season. A fast recovery will also highlight the environmental debate once again which has, unsurprisingly, taken a back seat for the time being. Though fast, the resurgence is unlikely to return traffic to pre-crises levels as travellers take a different view on life and the environment. Complete recovery could therefore take at least until next year, a realistic timescale if we consider that a significant proportion of GDP will essentially have been wiped out in a matter of months.
On the supply side, production was down before the pandemic and 2020 will certainly be a poor year for OEM deliveries across the board. This could help to stabilise demand for older equipment that continues to pray for sustained low oil pricing. Liquidity will also remain a problem short-term as banks and investors put everything on hold until the dust settles.
We expect the trading market to witness a drop in new leases and an increase in lease ends as airlines come to terms with demand levels. We also anticipate record demand for sale leasebacks as airlines explore ways to raise capital in the short-term. Pricing for these deals has generally been high in recent years as more and more buyers have squeezed out every conceivable part of the margin. However, we foresee fewer bidders which will leave the market open for experienced and market opportunists. This will help pricing to return to base levels and allow lease rates for new deals to recover. The situation is likely to endure for at least the period until the rest of the market recognises the highly cyclical nature of our industry, understanding that the mechanics of high pricing and diminishing yields can return fairly quickly. After all, interest rates will remain low for the foreseeable future.
If supply increases as airlines return aircraft, we would naturally expect secondary market lease rates to soften in line with the shaping of demand. Highly liquid assets will remain at the top, whilst those in low demand will continue their downward movement. During this time lessors will face pressure to provide payment holidays yet will still have debt obligations. They will therefore need to manage the extent to which they will go to support their customers but will still need to react to opportunities as and when they arise.
Long-term, values should follow the same base path but some market correction will be required on assets that lose favour once the dust settles. As it stands, deals closing now were struck some time ago at a pre-Covid-19 rate, whilst many others have stalled as cash conservation measures kick in.
We will continue to monitor the situation closely and react when the current restrictive market finally releases so we can judge where demand levels off. We spend a great deal of time assessing the relationship between base and market values, carefully considering short, medium and long-term factors, so we can remain confident in the continuing stability of base values overall. This is an evolving landscape: market values are expected to fluctuate whilst base values should remain resilient. Whilst we have made adjustments to the most recent base curves for a few aircraft types, due to an overall shift in demand affecting their economic lives, coronavirus-related factors will initially influence only market values until we can ascertain whether long-term performance has suffered impact.
Of course, all this assumes our lives will regain some level of normality before August and businesses across the board are supported with government aid where necessary to prevent widespread collapse. If this takes much longer or support is not forthcoming, unemployment levels will rise significantly and full recession [or depression] will be a certainty. At this point, we understand recovery could be much slower and more damaging to the industry in the long-term.
So, for 2020 we expect airline casualties, especially amongst those that have been limping along over recent years. We will also witness subsequent market value and lease rate corrections depending on the level of supply and demand of both equipment and liquidity.
Working collaboratively we can survive the current crisis and use this period to prepare ourselves for the better days that lie ahead. We want to assure our clients that we are here; we continue to provide advice, support and assistance.
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