Why Warren Buffett is investing in an airline industry he once called a death trap

Famed investor Warren Buffett called the airline business a “death trap” for investors back in 2013. Now, the Omaha-based financial whiz has turned into one of its biggest investors, an indicator of how much the industry has changed.

Buffett has invested nearly $10 billion through his holding company Berkshire Hathaway in United, American, Delta and Southwest airlines in the last few months, according to Securities and Exchange Commission filings.

This is the same man who once famously said: “If a capitalist had been present at Kitty Hawk back in the early 1900s he should’ve shot Orville Wright; he would have saved his progeny money.”

Buffett says he’s changed his tune because he believes airlines have learned to operate with more discipline and are no longer adding capacity — by buying more planes and launching new routes — than is justified by demand.

“It’s true that the airlines had a bad 20th century,” Buffett said in a recent interview on CNBC. “They’re like the Chicago Cubs. And they got that bad century out of the way, I hope.”

Buffett has a long track record of picking winners, and when his conglomerate acquires a stake in a particular business or several in an industry, other investors play close attention.

Buffett often buys entire companies that meet his investment criteria, but he has dismissed speculation that he might want to own an airline outright.

Buffett isn’t alone in his optimism about airlines.

In the last year, the Dow Jones U.S. airline index has risen 6% but is up 42% from a July lull.

“Profit margins are at all-time record highs,” said Jamie Baker, managing director at J.P. Morgan Securities. “The collective industry balance sheet has never been stronger.”

Industry experts say a series of events, starting with the 9/11 terrorist attacks, followed by a surge in fuel costs in 2008 and the financial meltdown nearly 10 years ago have forced airline executives to dramatically alter how they do business.

Before the 9/11 attacks, the industry was dominated by more than 10 major carriers that regularly launched fare wars to grab more of the market. New planes flew with nearly half of the seats empty.

Such practices led to bankruptcies, mergers and takeovers. Today, the four surviving airlines — American, United, Delta and Southwest — control more than 80% of the nation’s domestic flights.

“It was more fun when we had fare wars and market skirmishes,” said Henry Harteveldt, an industry analyst with Atmosphere Research Group. “But all four airlines now have experienced leadership teams and are behaving like adults.”

A fifth major carrier may be developing in Seattle. In December, the parent company of Alaska Airlines closed the $2.6-billion acquisition of Burlingame, Calif.-based Virgin America.

Another blessing for the industry has been the sharp drop in fuel costs starting in 2014.

The cost of a gallon of jet fuel in the U.S. in 2016 was $1.45, down 52% from $3.05 in 2013, according to the U.S. Bureau of Transportation Statistics. Fuel and labor are the two biggest expenses for an airline.

Labor costs are increasing, rising by 7% from the third quarter of 2015 to the same period in 2016, according to the Bureau of Transportation Statistics. But that rise has been more than offset by the plunge in fuel costs.

The percentage of available seats sold on each flight — known as the load factor — was 83% at the end of 2016, compared with 73% in January 2009.

Airlines also began in 2008 to “unbundle” their services, charging passengers new fees to check bags, change flights and buy food and entertainment. That move has generated billions of dollars in revenue for the industry.

With fewer competitors and lower fuel costs, the four major airlines have reported hefty profits over the last four years.

In the 12 months that ended Sept. 30, the nation’s top 25 airlines reported more than $35 billion in combined operating profits, according to the Bureau of Transportation Statistics. In the same period in 2009, the top airlines combined to collect only $685 million in operating profits.

The airlines now resemble other profitable U.S. industries that are dominated by a handful of major players, such as the grocery store industry or the cable television business, said Seth Kaplan, founding partner of the trade publication Airline Weekly.

And travelers now seem content — or at least tolerant of the industry.

A survey commissioned by an airline trade group of more than 5,000 American adults found that 85% said they were “very satisfied” or “somewhat satisfied” with their recent airline experience, up from 80% of 2015 fliers.

“I would think that Buffett is right in viewing the industry as having gained the stability needed to warrant a big investment,” said Jan K. Brueckner, an economics professor at UC Irvine.

The airline industry remains vulnerable to calamities that could cut into profits, including terrorist attacks, disease pandemics and a surge in fuel costs.

Still, industry experts say the airlines are financially stable enough to overcome such financial shocks.

“This will always be a shock-prone industry,” Kaplan said. “But there is reason to believe that they are better built to deal with the shocks.”

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