Airfares Start Soaring on Oil Prices and Capacity Cuts

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The price of an airline ticket is heading sharply higher, as U.S. airlines face steeper fuel costs and continue to cut their capacity to keep profits from falling.

According to research compiled by American Express (AXP), the average airfare paid in January was 8% higher compared to January 2010. Published fares for discount travel rose 5%, first-class fares were up 2% and full-coach fares climbed 4%. Typical business fares -- such as a midweek ticket -- fell 3%. And keep in mind that January was before oil prices started spiking in earnest as a result of the current Middle East unrest, so ticket prices can be expected to move even higher in the next several months.

"Through our own transaction data, which includes taxes, fees and surcharges, while we're just seeing airfares rise slightly, what you're seeing is a bigger impact from fuel surcharges," says Christa Degnan Manning, director of research and media for American Express Business Travel Global Advisory Services Group. "That is something that business travelers, when they are shopping for fares, don't always get visibility into."

Manning says to maximize travel budgets, travelers need to take advantage of restricted tickets and advance-purchase fares. But as Cathay Pacific CEO Tony Tyler recently told DailyFinance: "At the end of the day, if people want to travel, they will have to pay for fuel."

Where U.S. Carriers Are Ahead of Europe's

"Because the price of fares is going up, surcharges are going up, and capacity is constrained," Manning says. "To get the most cost-effective fares, you really need to plan ahead." The International Air Transport Association (IATA), the airline industry's trade association, reported this week that U.S. carriers had stepped out in front of European and Asia airlines in cutting capacity over the last couple of years.

North American airlines cut 2.8% of capacity in 2008 and 5.6% in 2009. European carriers were up 2.9% in 2008 and down 5.4% in 2009. Asian carriers were up 0.6% in 2008 and cut 4.8% in 2009.

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"The gap between capacity and demand was quite wide, and that has narrowed," says Chris Goater, an IATA spokesman based in Geneva. "The American carriers have been particularly good at responding quickly during the recession, which managed to protect profits better than European carriers have done."

The IATA says it expects profits at U.S. airlines to decline from $4.7 billion in 2010 to $3.2 billion because of higher oil prices. On a global basis, it sees airlines profits cut in half, from an estimated $16 billion in 2010 to $8.6 billion this year. That's based on a Brent crude oil price of $96 a barrel, but that oil is now going for over $114 a barrel, which could mean even slimmer profits for airlines.

A Reversal of Benchmarks

Last month, Delta Air Lines (DAL) President Ed Bastian told a presentation he expects the carrier to pay $400 million more for fuel this quarter than in the first quarter of 2010. "Yet our margins are going to be relatively the same," Bastian said, estimating them at 1% to 3%.

He said there had been four price increases in 45 days. In addition Delta was slowing capacity growth. It had expected to raise capacity by 5% to 7%, he said, but would increase it by only 3% to 5% instead.

The Financial Times disclosed Thursday that many U.S. airlines were losing profits because they had hedged their fuel prices against the U.S. crude benchmark, West Texas Intermediate (WTI), but jet fuel prices are actually based on Brent crude prices, a European standard. Normally this wouldn't be a problem because both prices run in tandem. But in recent months WTI prices have been substantially below Brent prices. So, while Brent crude was trading at $114 a barrel on Thursday, WTI changed hands at $100.95.

On the plus side, IATA is forecasting a 5.6% rise in passenger traffic in 2011 and a 6.1% rise in cargo. But those people and that freight are going to be paying more to move.

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