The year started off on a pretty solid note for the economy, as decent data in the U.S. has buoyed stocks while the European debt crisis appears to be under control, at least for now. This has been further confirmed by the latest bailout of troubled Greece in which more than $170 billion was forked over to help keep the nation out of default and in the euro zone. Thanks to these trends, many are beginning to feel more confident about the economy once again for the first time in while (see Three Construction ETFs For An Economic Recovery).
This renewed confidence has also had an impact on the commodity market as well, specifically in terms of energy products. Oil has been surging to start the year as more economic activity and geopolitical tensions have boosted the price for this vital commodity. As a result of this, some cyclical sectors, specifically those that are very susceptible to movements in the price of oil, have seen an overall good start to the year but have been under extreme pressure as of late. This is best evidenced by one of the most sensitive segments of all, the airline industry and the main ETF tracking it.
Unsurprisingly, the surge in oil prices, as WTI crude hit $105/bbl. and Brent rose to $121/bbl., has crushed airline related equities in recent trading sessions. In fact, the Guggenheim Airline ETF was pushed to a nearly 6.2% loss on the day, among the worst sectors to start the holiday-shortened week. The product was led lower by its heavy holdings in three stocks, Delta (DAL - Free Report) which makes up 17.2% of the fund, United Continental (UAL - Free Report) at 16.6% of FAA, and discount carrier Southwest Airlines (LUV - Free Report) at 14.2%. DAL was lower by about 7.5% while UAL fell by 9.0% and Southwest was down ‘only’ 3.5% in comparison. Given this significant weakness in the fund’s top three components, in addition to similar performances from the rest of the top ten holdings, investors shouldn’t be surprised to see that the product has a terrible session in Tuesday trading (also read FAA In Focus As AMR Lands In Bankruptcy).
Nevertheless, FAA is still up double digits so far in 2012, having added more than 13% to its total in the time period. However, it should be noted that gains were up to about 27% in year-to-date terms before high oil prices spooked investors in the space. Now, FAA has lost about 7.3% in the past five trading periods, suggesting that the Guggenheim fund could be grounded for the foreseeable future, especially if oil prices remain high.
Thanks to this issue, it is important to keep in mind how rising commodity prices can impact other investments, and sometimes overshadow broader economic trends. Without this oil problem, it isn’t unreasonable to expect that airlines would continue to be a top performer heading into the second quarter of the year. However, given the current trend in oil prices, as well as the mounting tensions with Iran, investors could see more oil price increases in the later part of the year, potentially keeping airlines under pressure. As a result, a play on other sensitive industries, like industrials or consumer discretionary firms, could be ideal at this time should oil price increases continue to dominate the headlines in the commodity world (read Three ETFs For An Iranian Crisis).
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Author is long LUV.