Oil price volatility and airlines’ stock returns: evidence from the global aviation industry
Abstract
The paper explores the long versus short-term attributes of the airline industry exposure to oil price risk in a macroeconomic framework that emphasizes the interconnections between various risk factors, which is the main contribution to the research in the field. A panel ARDL model and PMG estimator have been applied on monthly data between 2007 and 2020 to investigate the long-term equilibrium relationship between airline companies’ stock prices, oil price risk, financial market volatility, currency risk, inflation, and maturity risk. The negative impact of oil price risk on airlines’ stock prices is significant, robust, and pervasive, and is coupled with a concerning exposure to the US dollar currency risk. As another contribution, the paper analyses the prospects and challenges of the airline industry in dealing with oil price risk in the post-pandemic world. The results point towards the need of the airline industry to rethink its strategic decisions in the more uncertain and unpredictable post-pandemic world, requiring a more comprehensive approach of the complex and dynamic network of risk exposures and a reconsideration of hedging policies.
Keyword : oil prices, exposure, air transport, ARDL panel, PMG estimator, risk management
This work is licensed under a Creative Commons Attribution 4.0 International License.
References
Aggarwal, R., Akhigbe, A., & Mohanty, S. K. (2012). Oil price shocks and transportation firm asset prices. Energy Economics, 34(5), 1370–1379. https://doi.org/10.1016/j.eneco.2012.05.001
AlMadi, M. S., & Zhang, B. (2011). Lead-lag relationships between world crude oil benchmarks: Evidence from West Texas Intermediate, Brent, Dubai and Oman. International Research Journal of Finance and Economics, 80, 13–26.
Asteriou, D., Pilbeam, K., & Pratiwi, C. E. (2021). Public debt and economic growth: Panel data evidence for Asian countries. Journal of Economics and Finance, 45, 270–287. https://doi.org/10.1007/s12197-020-09515-7
Ateș, S. S., Kafali, H., & Kılıçoğlu, G. C. (2018). Reducing operational fuel costs of airlines: A model for monitoring and managing fuel consumption using unified modeling language. Celal Bayar Üniversitesi Fen Bilimleri Dergisi, 14(1), 105–111. https://doi.org/10.18466/cbayarfbe.372436
BenSaïda, A, Litimi, H., & Abdallah, O. (2018). Volatility spillover shifts in global financial markets. Economic Modelling, 73, 343–353. https://doi.org/10.1016/j.econmod.2018.04.011
Berghöfer, B., & Lucey, B. (2014). Fuel hedging, operational hedging and risk exposure – Evidence from the global airline industry. International Review of Financial Analysis, 34, 124–139. https://doi.org/10.1016/j.irfa.2014.02.007
Burghouwt, G., & de Wit, J. (2006, October 26). The challenges of high-priced oil for aviation (Airneth Report). http://www.airneth.nl/uploads/media/Airneth_Report_2.pdf
Carter, D. A., Rogers, D. A., & Simkins, B. J. (2006). Does hedging affect firm value? Evidence from the US airline industry. Financial Management, 35(1), 53–86. https://doi.org/10.1111/j.1755-053X.2006.tb00131.x
Chang, D., Prasad, E., & Wu, E. (2020, October 11). COVID-19 remains an impediment to the global recovery. Brookings. https://www.brookings.edu/research/october-2020-update-to-tiger-covid-19-remains-an-impediment-to-the-global-recovery/
Chao, C. C., & Hsu, C. W. (2014). Cost analysis of air cargo transport and effects of fluctuations in fuel price. Journal of Air Transport Management, 35, 51–56. https://doi.org/10.1016/j.jairtraman.2013.11.010
Chen, C.-D., Cheng, C.-M., & Demirer, R. (2017). Oil and stock market momentum. Energy Economics, 68, 151–159. https://doi.org/10.1016/j.eneco.2017.09.025
Chen, H., Liu, L., Wang, Y., & Zhu, Y. (2016). Oil price shocks and U.S. dollar exchange rates. Energy, 112, 1036–1048. https://doi.org/10.1016/j.energy.2016.07.012
Chen, N. F. (1991). Financial investment opportunities and the macroeconomy. Journal of Finance, 46(2), 529–554. https://doi.org/10.2307/2328835
Elian, M. I., & Kisswani, K. M. (2018). Oil price changes and stock market returns: Cointegration evidence from emerging market. Economic Change and Restructuring, 51(4), 317–337. https://doi.org/10.1007/s10644-016-9199-5
Elsayed, A. H., Nasreen, S., & Tiwari, A. K. (2020). Time-varying co-movements between energy market and global financial markets: Implication for portfolio diversification and hedging strategies. Energy Economics, 90, 104847. https://doi.org/10.1016/j.eneco.2020.104847
Engle, R., & Granger, C. (1991). Long-run economic relationships: Readings in cointegration. Oxford University Press.
Engle, R. F., & Granger, C. W. J. (1987). Co-Integration and error correction: Representation, estimation, and testing. Econometrica, 55(2), 251–276. https://doi.org/10.2307/1913236
Fama, E. F. (1990). Stock returns, expected returns, and real activity. Journal of Finance, 45(4), 1089–1108. https://doi.org/10.2307/2328716
Fama, E. F., & French, K. R. (1989). Business conditions and expected returns on stocks and bonds. Journal of Financial Economics, 25(1), 23–50. https://doi.org/10.1016/0304-405X(89)90095-0
Fisher, I. (1930). The theory of interest. MacMillan.
Flouris, T., & Walker, T. J. (2005). The financial performance of low‐cost and full‐service airlines in times of crisis. Canadian Journal of Administrative Sciences/Revue Canadienne des Sciences de l’Administration, 22(1), 3–20. https://doi.org/10.1111/j.1936-4490.2005.tb00357.x
Fraser, P. (1995). UK stock and government bond markets: Predictability and the term structure. Applied Financial Economics, 5(2), 61–67. https://doi.org/10.1080/758529173
Genc, I. H., Miller, J. R., & Dogan, G. (2006). The macroeconomic environment and airline profitability: A study of us regional airlines. Tourism Analysis, 11(6), 381–395. https://doi.org/10.3727/108354206781040768
Goh, C. F., & Rasli, A. (2014). Stock investors’ confidence on low-cost and traditional airlines in Asia during Financial Crisis of 2007–2009. Procedia-Social and Behavioral Sciences, 129, 31–38. https://doi.org/10.1016/j.sbspro.2014.03.644
Horobet, A., Vrinceanu, G., Popescu, C., & Belascu, L. (2019). Oil price and stock prices of EU financial companies: Evidence from panel data modeling. Energies, 12(21), 4072. https://doi.org/10.3390/en12214072
Hsu, C. (2017). How fuel price shocks affect airline stock returns: An empirical study of major US carriers. International Journal of Business and Finance Research, 11(2), 51–59.
Huse, C., & Oliveira, V. M. (2012). Does product differentiation soften price reactions to entry? Evidence from the Airline Industry. Journal of Transport Economics and Policy, 46(2), 189–204.
International Air Transport Association. (2018). Fact sheet climate change & CORSIA. IATA. https://www.iata.org/contentassets/ed476ad1a80f4ec7949204e0d9e34a7f/corsia-fact-sheet.pdf
International Air Transport Association. (2020). Industry statistics: Fact sheet. IATA. https://www.iata.org/en/iata-repository/publications/economic-reports/airline-industry-economic-performance---november-2020---data-tables/
International Air Transport Association. (2020a). 2019 worst year for air freight demand since 2009. IATA. https://www.iata.org/en/pressroom/pr/2020-02-05-01/
International Air Transport Association. (2020b). Economic performance of the airline industry. IATA. https://www.iata.org/en/iata-repository/publications/economic-reports/airline-industry-economic-performance---november-2020---report/
Jain, R., Nauck, F., Poppensieker, T., & White, O. (2020). Meeting the future: Dynamic risk management for uncertain times. McKinsey & Company. https://www.mckinsey.com/business-functions/risk/our-insights/meeting-the-future-dynamic-risk-management-for-uncertain-times
Ji, Q., & Fan, Y. (2015). Dynamic integration of world oil prices: A reinvestigation of globalisation vs. regionalisation. Applied Energy, 155, 171–180. https://doi.org/10.1016/j.apenergy.2015.05.117
Johansen, S. (1988). Statistical analysis of cointegration vectors. Journal of Economic Dynamics and Control, 12(2–3), 231–254. https://doi.org/10.1016/0165-1889(88)90041-3
Johansen, S. (1991). Estimation and hypothesis testing of cointegration vectors in Gaussian vector autoregressive models. Econometrica, 59(6), 1551–1580. https://doi.org/10.2307/2938278
Jones, C. M., & Kaul, G. (1996). Oil and the stock markets. The Journal of Finance, 51(2), 463–491. https://doi.org/10.1111/j.1540-6261.1996.tb02691.x
Kao, C. (1999). Spurious regression and residual-based tests for cointegration in panel data. Journal of Econometrics, 90(1), 1–44. https://doi.org/10.1016/S0304-4076(98)00023-2
Killins, R. N. (2020). The impact of oil on equity returns of Canadian and U.S. railways and airlines. The North American Journal of Economics and Finance, 52, 101178. https://doi.org/10.1016/j.najef.2020.101178
Kristjanpoller, W. D., & Concha, D. (2016). Impact of fuel price fluctuations on airline stock returns. Applied Energy, 178, 496–504. https://doi.org/10.1016/j.apenergy.2016.06.089
Kumar, R. R. (2013). Exploring polarization and uniformity in sectors and inflows vis-à-vis growth: A study of Brazil-led and Mexico-led clusters in the region. Management Decision, 51(8), 1579–1595. https://doi.org/10.1108/MD-10-2012-0763
Lardic, S., & Mignon, V. (2008). Oil prices and economic activity: An asymmetric cointegration approach. Energy Economics, 30(3), 847–855. https://doi.org/10.1016/j.eneco.2006.10.010
Loudon, G. F. (2004). Financial risk exposures in the airline industry: Evidence from Australia and New Zealand. Australian Journal of Management, 29(2), 295–316. https://doi.org/10.1177/031289620402900208
Maghyereh, A., & Al‐Kandari, A. (2007). Oil prices and stock markets in GCC countries: New evidence from nonlinear cointegration analysis. Managerial Finance, 33(7), 449–460. https://doi.org/10.1108/03074350710753735
Merkert, R., & Swidan, S. (2019). Flying with(out) a safety net: Financial hedging in the airline industry. Transportation Research Part E: Logistics and Transportation Review, 127, 206–219. https://doi.org/10.1016/j.tre.2019.05.012
Mollick, A. V., & Amin, M. R. (2021). Occupancy, oil prices, and stock returns: Evidence from the US airline industry. Journal of Air Transport Management, 91, 102015. https://doi.org/10.1016/j.jairtraman.2020.102015
Morrell, P., & Swan, W. (2006). Airline Jet fuel hedging: Theory and practice. Transport Reviews, 26(6), 713–730. https://doi.org/10.1080/01441640600679524
Morrison, J., Bonnefoy, P., Hansman, J., & Sgouridis, S. (2010). Investigation of the impacts of effective fuel cost increase on the US Air transportation network and fleet. In 10th AIAA Aviation Technology, Integration, and Operations Conference. https://core.ac.uk/download/pdf/4427413.pdf
Nandha, M., Brooks, R., & Robert, F. A. F. F. (2013). Oil, oil volatility and airline stocks: A global analysis. Accounting and Management Information Systems, 12(2), 302.
Ngai, C., Raimonde, O., & Longley, A. (2020, April 19). Oil plunges below zero for first time in unprecedented wipeout. https://www.bloomberg.com/news/articles/2020-04-19/oil-drops-to-18-year-low-on-global-demand-crunch-storage-woes
Nkoro, E., & Uko, A. K. (2016). Autoregressive Distributed Lag (ARDL) cointegration technique: Application and interpretation. Journal of Statistical and Econometric Methods, 5(4), 63–91.
Orlowski, L. T. (2017). Volatility of commodity futures prices and market-implied inflation expectations. Journal of International Financial Markets, Institutions and Money, 51, 133–141. https://doi.org/10.1016/j.intfin.2017.10.002
Park, J., & Ratti, R. A. (2008). Oil price shocks and stock markets in the US and 13 European countries. Energy Economics, 30(5), 2587–2608. https://doi.org/10.1016/j.eneco.2008.04.003
Pearce, B. (2020, November 24). Outlook for Air transport and the airline industry. IATA General Annual Meeting. https://www.iata.org/en/iata-repository/publications/economic-reports/airline-industry-economic-performance-november-2020---presentation/
Pesaran, M. H., Shin, Y., & Smith, R. J. (1999). Pooled mean group estimation of dynamic heterogeneous panels. Journal of the American Statistical Association, 94(446), 621–634. https://doi.org/10.2307/2670182
Pesaran, M. H., Shin, Y., & Smith, R. J. (2001). Bounds testing approaches to the analysis of level relationships. Journal of Applied Econometrics, 16(3), 289–326. https://doi.org/10.1002/jae.616
Peskett, J. (2020, February 06). Global air freight market has worst year since 2009 financial crash. Aviation Businessme.com. https://www.aviationbusinessme.com/aviation-services/20927-global-air-freight-market-has-worst-year-since-2009-financial-crash
Philips, A. Q. (2018). Have your cake and eat it too? Cointegration and dynamic inference from autoregressive distributed lag models. American Journal of Political Science, 62(1), 230–244. https://doi.org/10.1111/ajps.12318
Rafailidis, P., & Katrakilidis, C. (2014). The relationship between oil prices and stock prices: A nonlinear asymmetric cointegration approach. Applied Financial Economics, 24(12), 793–800. https://doi.org/10.1080/09603107.2014.907476
Ranasinghe, T., Sivaramakrishnan, S., & Yi, L. (2021). Hedging, hedge accounting, and earnings predictability. Review of Accounting Studies. https://doi.org/10.1007/s11142-021-09595-8
Ritchie, H., & Roser, M. (2020). Energy. OurWorldInData.org. https://ourworldindata.org/energy
Rodrigue, J.-P. (2020). The geography of transport systems (5th ed.). Routledge.
Sadorsky, P. (1999). Oil price shocks and stock market activity. Energy Economics, 21(5), 449–469. https://doi.org/10.1016/S0140-9883(99)00020-1
Salisu, A. A., Ebuh, G. U., & Usman, N. (2020). Revisiting oil-stock nexus during COVID-19 pandemic: Some preliminary results. International Review of Economics & Finance, 69, 280–294. https://doi.org/10.1016/j.iref.2020.06.023
Schlumberger, C. E., & Wang, D. (2012). Air transport and energy efficiency. The International Bank for Reconstruction and Development/The World Bank, Washington, DC.
Shaeri, K., & Katircioğlu, S. (2018). The nexus between oil prices and stock prices of oil, technology and transportation companies under multiple regime shifts. Economic Research-Ekonomska Istraživanja, 31(1), 681–702. https://doi.org/10.1080/1331677X.2018.1426472
Shrestha, M. B., & Bhatta, G. R. (2018). Selecting appropriate methodological framework for time series data analysis. The Journal of Finance and Data Science, 4(2), 71–89. https://doi.org/10.1016/j.jfds.2017.11.001
Singh, J., Sharma, S. K., & Srivastava, R. (2018). Managing fuel efficiency in the aviation sector: Challenges, accomplishments and opportunities. FIIB Business Review, 7(4), 244–251. https://doi.org/10.1177/2319714518814073
Suk, M., & Kim, W. (2021). COVID-19 and the airline industry: Crisis management and resilience. Tourism Review, 76(4), 984–998. https://doi.org/10.1108/TR-07-2020-0348
Tai, C. S. (2008). Asymmetric currency exposure and currency risk pricing. International Review of Financial Analysis, 17(4), 647–663. https://doi.org/10.1016/j.irfa.2007.09.002
Thorbecke, W. (2019). Oil prices and the U.S. economy: Evidence from the stock market. Journal of Macroeconomics, 61, 103137. https://doi.org/10.1016/j.jmacro.2019.103137
Turner, S., & Morrell, P. (2003). An evaluation of airline beta values and their application in calculating the cost of equity capital. Journal of Air Transport Management, 9(4), 201–209. https://doi.org/10.1016/S0969-6997(02)00085-6
U.S. Energy Information Administration. (2020). Short-term energy outlook. EIA. https://www.eia.gov/outlooks/steo/pdf/steo_full.pdf
Wang, H., & Gao, X. (2020). Oil price dynamics and airline earnings predictability. Journal of Air Transport Management, 87, 101854. https://doi.org/10.1016/j.jairtraman.2020.101854
Williams, B. J. (1938). The theory of investment value. Harvard University.
Yang, L., Cai, X. J., & Hamori, S. (2017). Does the crude oil price influence the exchange rates of oil-importing and oil-exporting countries differently? A wavelet coherence analysis. International Review of Economics & Finance, 49, 536–547. https://doi.org/10.1016/j.iref.2017.03.015
Yashodha, Y., Hamid, B. A., & Habibullah, M. S. (2016). Financial risk exposures of the airlines industry: Evidence from Cathay Pacific Airways and China Airlines. International Journal of Business and Society, 17(2), 221–244. https://doi.org/10.33736/ijbs.522.2016
Yun, X., & Yoon, S. M. (2019). Impact of oil price change on airline’s stock price and volatility: Evidence from China and South Korea. Energy Economics, 78, 668–679. https://doi.org/10.1016/j.eneco.2018.09.015
Zhang, J., Fang, H., Wang, H., Jia, M., Wu, J., & Fang, S. (2017). Energy efficiency of airlines and its influencing factors: A comparison between China and the United States. Resources, Conservation and Recycling, 125, 1–8. https://doi.org/10.1016/j.resconrec.2017.05.007
Zhu, C., Wu, J., Liu, M., Wang, L., Li, D., & Kouvelas, A. (2021). Recovery preparedness of global air transport influenced by COVID-19 pandemic: Policy intervention analysis. Transport Policy, 106, 54–63. https://doi.org/10.1016/j.tranpol.2021.03.009