Pair Trade? Credit Suisse Upgrades Alaska Air, Downgrades Spirit

In a report published Thursday, Credit Suisse analyst Julie Yates changed the ratings on two US airlines ahead of their earnings report and May traffic data.

Analyst Julie Yates upgraded the rating on Alaska Air Group, Inc. ALK from Neutral to Outperform, while raising the price target from $75 to $78. The rating on Spirit Airlines IncorporatedSAVE was downgraded from Outperform to Neutral, with a downward revision in the price target from $75 to $69.

In the report Credit Suisse cited the following reasons for the rating change:

• “We are less worried about ALK's issues in SEA with the rate of competitive capacity adds declining, and more worried about industry-wide fare compression.” The decline in fares has been more pronounced in markets where American Airlines Group IncAAL, Spirit Airlines and Southwest Airlines Co LUV overlap, but not inAlaska Air's market.
• Alaska Air can be expected to repurchase up to 8 percent of its market cap this year.
• There is the least downside to the consensus expectations for Alaska Air.

“Also, ALK has the lowest level of labor inflation over the next several years relative to peers with recent long-term deals,” Yates said. The EPS estimate for 2015 has been reduced from $6.03 to $5.95, while that for 2016 has been raised from $6.00 to $6.11.

While naming Spirit Airlines as “one of the best long-term, secular growth stories in the domestic airline sector,” Yates emphasized that the company has “a widening cost advantage” and a robust balance sheet. However, the company faces “more aggressive competitor fare actions and risk to margin guidance.”

“Fare compression, which mgmt warned investors of back in December, has spread beyond Dallas and SAVE seems to be a direct target of AAL's more aggressive revenue management,” Yates added. The EPS estimates for 2015 and 2016 have been reduced from $4.63 to $4.51 and from $5.16 to $4.83, respectively.

Although Spirit Airlines’ shares have declined 17 percent year-to-date, “negative earnings momentum and limited revenue visibility make multiple expansion unlikely over the coming months,” the report stated.