City Insider: Oil price slump a boost for Carnival and the sector

City Insider: Oil price slump a boost for Carnival and the sector

City Insider - FT journalist David Stevenson on the travel industry

Over the last few weeks a growing sense of despair has gripped the financial markets as investors worry about a slowdown in the global recovery and the potential for a systemic crisis as a result of the problems in Greece.

Yet Carnival Corporation’s second-quarter numbers should act as a useful corrective, reminding us all that north America is slowly starting to recover and that oil prices don’t only have to head in one direction.

Carnival’s results didn’t exactly set the world alight yet the generally positive sentiment has prompted more than a few analysts stateside to start increasing their estimates for 2012.

The key number highlighted was the net revenue per available lower berth day (revenue yield, for short). It ticked up as planned, especially with the north American brands. In overall terms the yield was up 2.7%.

The fairly obvious negatives for the cruise giant included Japan, trouble in parts of north Africa and increased oil prices, which cost the company $150 million or $0.19 per share – according to Carnival fuel prices increased 35% to $673 per metric ton for Q2 2011, an increase from $498 per metric ton on Q2 2010 and higher than March guidance which had been at $659 per metric ton.

But Carnival’s management don’t seem terrifically worried by these negatives and the strategic growth plan based on a fairly constant stream of new ships doesn’t seem to have changed – in fact Carnival have just taken delivery of its 100th ship, Carnival Magic.

Crucially, Carnival confirmed that “cumulative advance bookings for the remainder of [2011] are at higher prices with lower occupancies versus last year. For the last six weeks, booking volumes for the second half of 2011 are well ahead of the prior year for the north America brands”.

Management also seems fairly confident it can keep to a target of around $2.45 per share in earnings for 2011, which puts the shares on a forward price-to-earnings ratio of about 15 (based on a share price of $37 per share).

That’s a fairly decent discount to the US markets, especially if Carnival is able to grow the business substantially over the next few years. The share price weakness can be explained by one simple factor: uncertainty over the price of oil.

Unlike many companies in the travel space Carnival doesn’t hedge its oil deliveries and that makes the shares highly vulnerable to the vagaries of the oil market. Luckily for Carnival the news from the oil futures floors was beginning to perk up even before the decision by the International Energy Authority to release strategic oil reserves last week.

US crude futures in particular have looked very weak recently, falling by more than $4.50 in one day a few weeks back. US crude futures have recently touched a four month low at $95 a barrel and traders are now expecting a rather grim summer break, especially as economists lower their forecasts for growth in the all-important US market. 

One recent research report from Ritterbusch and Associates suggested that prices could dip below $95 a barrel, hitting $92 for crude while other analysts have even predicted a low of between $85 per barrel.

Obviously if crude oil prices did crash to these levels, we should be on alert for a sudden snap back in price as hedge funds pile into the market, alert to the possibility that US growth could start to pick up again in the autumn. But these subdued crude prices spell good news for Carnival over the next few months and could help it turn in some very robust numbers in the third quarter – with a likely snap back up in the share price.

Stepping back from the oil market and Carnival’s trading numbers, one insight becomes obvious: the US consumer market, though subdued, is showing early signs of life, especially with wealthier clients on the seaboards.

I wouldn’t describe this as a proper recovery, in part because the US housing market is generally still stuck in the doldrums, but key parts of the US economy are showing signs of life. For me one of the key indicators has to be US rental prices – rents charged on high quality metropolitan two-bed flats in prime cities have started to rebound sharply.

That rent uptick has not gone unnoticed by the inflation hawks but the bears can’t have their cake and eat it – if rents are starting to rise, that’s happening because parts of the housing market are starting to bottom out, and younger professionals in particular are spending more money on accommodation.

In key cities like Boston, New York, San Francisco and Portland anecdotal evidence is coming through of a more sustained recovery especially for wealthier families and younger professionals. That will feed through into both the housing market and consumer sentiment.

That’s a positive backdrop for Carnival, especially as it starts to reorientate its north American operations towards the younger, ‘yuppie’ crowd looking for a fun, all inclusive trip with great sunshine.

More to the point, it is probably moderately good news for the rest of us. If the US economy does begin to pick up steam in the autumn, helped along by lower oil prices, that feelgood factor will impact the UK later in Q4, with the hint of an upturn in consumer spending.

One last quick observation. The FTSE Group has just announced that Tui Travel is about to be bumped out of the FTSE 100 index to be replaced by Tate and Lyle.

These index promotion/demotion stories don’t usually mater greatly over the medium-to-long term and the news doesn’t seem to have especially unnerved investors. Yet the reality is that academic study after academic study suggests that a demotion is usually bad news in the short term.

If this pattern is repeated we are likely to see some weakness in the share price as index tracking investment funds start to run programmed trades to sell Tui Travel shares, with the share price perhaps pushing back below 220p again.

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