ISTAT News | 25 January 2022
Jetrader: Finishing the Long Path to a Demand Recovery
By: Douglas Harned
After the COVID-19 pandemic hit in early 2020, aircraft demand came to a halt, airline traffic plummeted and aircraft delivery rates were slashed. Even in summer 2020, we saw glimmers of optimism that the recovery would happen soon. Forward airline schedules would show substantial improvement coming in many markets. Analysts latched onto those outlooks and predicted recovery. But every time this happened, we saw that optimism crushed when actual schedules eventually came through with limited improvement — and even less so in passenger traffic (RPKs). None of this schedule data really mattered. This was not a problem that airlines could solve or even forecast. The problem was, and is, a medical problem.
Since late 2020, we have seen global progress against COVID-19 as the key to recovery for aircraft demand. The first big step was taken in November 2020 when Moderna and Pfizer vaccines demonstrated high efficacy against COVID-19. Those results held up and other vaccines followed (e.g., Johnson & Johnson, AstraZeneca, Sinopharm, Sinovac, Sputnik V), although others failed (e.g., CSL, Merck, GSK). Aerospace stocks rallied in November 2020 into early December on that news.
Regional signs of encouragement started to happen in early 2021. China domestic traffic had already recovered to 2019 levels. Vaccinations were rolled out rapidly in the United States, and U.S. domestic traffic moved in tight correlation with that rollout even as the highly transmissible delta variant of COVID-19 surged. European vaccination programs ramped up with the United Kingdom leading. Soon intra-European traffic followed the growth in vaccine penetration, just as it had in the United States. The result of these regional successes was to spur hope by industry observers, primarily in Western countries. Basically, the thinking was, if I can now go out to a restaurant, air travel is soon going to follow. Once that happens, airlines will need more airplanes, and we will move back to the positive demand outlook we knew before the pandemic. But cash-strapped airlines around the world cannot drive a recovery until traffic really starts to return.
Unfortunately, observers who looked through the lens of regional improvements missed the breadth and complexity of what was needed to drive commercial aircraft demand. A healthy market cannot depend on aircraft being forced on them by manufacturers, even if they can alleviate some of the pain through government subsidies and sale-leaseback agreements.
The recovery needs to be global. As of early August 2020, most major markets outside of North America, Europe and China had negligible vaccine penetration. North America and Europe were also benefiting from high levels of infection (although clearly not a benefit for the more than 1 million people who had died in those regions from COVID-19), which added to immunity. Because Asia-Pacific represents more than 40% of aircraft demand, it is critical. Furthermore, the majority of international travel globally involves Asia as an origin or destination. Simply put, one cannot have recovery in global aircraft demand without a strong recovery in Asia Pacific.
FIGURE 1: PERCENT OF POPULATION FULLY VACCINATED AS OF 8 AUGUST; NARROWBODY FLEETS
Source: One World in Data, Bernstein analysis
Figure 1 shows where countries were in early August in terms of full vaccinations. The horizontal axis shows the percentage of population fully vaccinated. The vertical axis shows the number of COVID-19 cases per million population. Circle sizes are proportional to the size of the narrowbody passenger fleets in each region as of the beginning of 2020. The red circles are the highest growth markets, where the backlog exceeds fleet size. Outside of North America, Europe and China, vaccinations were practically nonexistent. The countries in the red-dashed circle represent major markets for aircraft, and many also have low infection rates. This was why we saw little reason for optimism on the recovery during the past summer.
In Figure 1, we show narrowbodies because they will be the first to recover. It has been common knowledge that the widebody market would be hit much more severely than the narrowbody market and that the widebody recovery would take longer. Exacerbating the widebody issues was the fact that widebody demand was already weak prior to the pandemic. But what appeared to not be well understood was that international traffic plays a large role in narrowbody demand as well. It is not just about recovery in U.S. domestic, China domestic or even intra-European travel that matters. In fact, in 2019, 41% of narrowbody capacity operated on routes outside of those three areas. Again, a global recovery is what is needed.
We see countries falling into three categories. The first category is basically North America and Europe. These countries made strong early progress in vaccinations, which moved above 50% penetration, plus added immunity from infections. U.S. domestic travel is essentially open, and intra-European traffic is opening rapidly. Traffic growth has been highly correlated with vaccine penetration in both regions. The next group includes countries where vaccine penetration has been rising rapidly but without internal lockdowns. India and Brazil fall into this category. Domestic traffic is moving up rapidly after a pullback. The third category has been the big problem. These are countries in which COVID-19 has been controlled through zero-tolerance type policies. These countries, which have enforced lockdowns on a regular basis, include Australia, Vietnam, New Zealand and China.
The good news right now is that vaccine penetration in markets outside North America and Europe have been rising rapidly, and we are finally seeing evidence that lockdowns will end. Countries like Australia, Malaysia and Japan now have higher vaccination rates than the United States, although they are not benefiting from high levels of prior infection. We now appear to be at a turning point as vaccinations move to very high levels and lockdowns start to end. Australia finally opened its borders to vaccinated travelers on 1 November. Other countries are also finally opening up as well (e.g., Malaysia, New Zealand, Vietnam).
Figure 2 shows where these markets stand now in terms of first doses. First-dose penetration indicates that within three to four weeks, these numbers will translate to fully vaccinated. Nearly all major markets have moved out of the red-dashed circle and are already at 50%, although a few areas lag (e.g., Russia, Philippines, much of Africa). Many of the countries shown here have fewer reported infections (likely some underreporting), but more authoritarian governments can push through vaccination programs more easily than, say, the U.S., where vaccination progress has somewhat stagnated, although infection levels have continued to rise.
FIGURE 2: PERCENT OF POPULATION WITH AT LEAST ONE DOSE AS OF 5 DECEMBER; NARROWBODY FLEETS
Source: One World in Data, Bernstein analysis
We expect most important markets to be open by the spring of 2022, as lockdowns make little sense with the delta variant. That is because it is so transmissible, we will see cases even if a population is 100% vaccinated. This means that a zero-tolerance policy would keep restrictions in place forever. This is clearly not practical and not necessary if hospitalizations are kept at manageable levels through vaccination policies. Governments finally are starting to realize this, which means reopening. The spread of the new omicron variant, which so far has not shown high virulence, further points to the futility of zero-tolerance policies, despite new travel restrictions put in place in the short-term. We expect COVID-19 in its multiple variants to be manageable with vaccines and likely soon with antiviral drugs (e.g., Pfizer’s Paxlovid).
One big barrier is China, which has been following a zero-tolerance policy. This led to lockdowns in August that crushed even domestic travel. With severe border restrictions, international traffic in and out of China has been consistently down more than 90% relative to 2019 levels. We expect little action before the Beijing Winter Olympics in February and Paralympics in March, as the country cannot afford a COVID-19 outbreak. But come the spring of 2022, a reopening of the Chinese market would be possible. How that reopening proceeds will depend on trade-offs for the Chinese government, with the risk of new COVID-19 cases versus the social and economic penalties of continued lockdowns ahead of the Central Committee meetings in November 2022. Also playing into the reopening decision in China will be progress on its own mRNA vaccines. But if the rest of the world has opened by spring 2022, we expect it will be hard for China to remain closed over the long term.
Everything is not perfect for a recovery. Russia is still fighting through outbreaks, enabled by its relatively low vaccination rate. One-off travel restrictions are coming and going. Definitions of acceptable vaccines vary as efficacy levels are not the same. But come April 2022, we believe the economic and social pressures will be too great to maintain restrictions.
All of this means that during the next six months, we should be able to finally see growth in travel come back that should lead to growth in the fleet and more demand for new aircraft. We expect narrowbody capacity to recover to 2019 levels during 2022 and widebody capacity to recover during 2024. In the meantime, deliveries should come to support replacement needs, which we see as more substantial than what we saw during the 2008-2009 global financial crisis. The difference is, first, because of a larger number of airplanes have been parked and they have been parked for longer periods. Second, and more importantly, pressure to reduce carbon over the next several years should accelerate replacement plans. After a difficult two years, therefore, in the spring of 2022, we should finally see the long-awaited upside for the commercial aircraft OEMs and their suppliers.
Douglas Harned is the managing director and senior analyst of aerospace and defense at Sanford C. Bernstein & Company.