Airfares 'likely to fall from second half of the year'

Airfares 'likely to fall from second half of the year'
A SilkAir (right) and a Singapore Airlines (SIA) plane at the Changi Airport.

SINGAPORE - The recent plunge in oil prices should bring airfares down for more travellers from the second half of the year, said the chief economist of a global airline body.

"After the middle of the year, we should see some of the benefits from lower oil prices being passed on to the consumer," Mr Brian Pearce of the International Air Transport Association (Iata) told The Straits Times.

This is welcome news for travellers, who have been asking why fares have not been slashed when crude oil prices have plummeted by about half since reaching highs of over US$100 a barrel in June.

While some airlines have cut their fuel sur- charges, many - including Singapore Airlines (SIA) and SilkAir - have not. Aviation analysts cited two main reasons for this.

First, many carriers are still paying higher fuel prices due to hedging. Oil is also not the only big-ticket expense that airlines have to bear.

To reduce their exposure to volatile and potentially rising fuel costs, airlines have traditionally turned to hedging, which allows them to lock in a guaranteed amount of fuel for future consumption at a fixed price.

This provides stability but the flip side is that when prices fall, as they have in recent months, carriers end up paying more than the current market price.

SIA, for example, has hedged about 65 per cent of its fuel requirements for the six months to the end of March at US$116 per barrel.

"Fuel hedging can and does have a massive impact on the lag in fares dropping," said Mr Mark Clarkson, Asia-Pacific business development director at industry consultancy OAG.

"Airlines have hedged at much higher rates than the current market price and, therefore, may have to try and stick it out until they can remove themselves from the hedges."

Travellers should also realise that the fares they pay are used to settle other bills as well, experts said.

Costs incurred by airlines can differ greatly from carrier to carrier depending on where it is based and whether it operates mainly short or long-haul flights.

In Europe and the United States, where labour costs tend to be higher than in Asia, staff charges, aircraft maintenance and repair expenses typically make up a higher proportion of total costs.

Long-haul carriers such as SIA and Cathay Pacific tend to see a larger chunk - as much as 40 per cent - of total costs going into the fuel bill, because they consume more oil.

As an industry, the Iata expects fuel to account for about 26 per cent of total costs for global carriers this year, down from about 30 per cent last year.

Other major expenses include staff salaries and the cost of aircraft depreciation and rentals for leased planes.

Mr Darren Rickey, vice-president of industry consultancy Sabre Airline Solutions, said the cost of operating a flight is usually related to direct costs such as fuel, crew, landing fees, catering and in-flight entertainment.

Meanwhile, the cost of running an airline includes all other business costs such as salaries, facilities, marketing and advertising, information technology and agency commissions, he added.

Both are taken into account when airlines, guided by demand, set fares, but making money on every route is not a given.

For example, airlines that want to grow their network are sometimes prepared to lose money on short-haul or feeder routes if the same passengers then transfer to their long-haul flights, experts said.

Mr Rickey said: "Some airlines seek profit maximisation, while others aspire for market penetration and market share. In the latter, carriers may seek to disrupt current pricing in the market.

"Some carriers also have a strategy to lose money on base fares, with the intention of offsetting that with ancillary revenues (for example, the money earned from frills like baggage fees)."

Despite the fall in fuel prices, profits will remain squeezed as airlines continue to compete aggressively to fill their seats.

Overall though, the industry should do better this year than in previous years, Mr Pearce said.

"We expect (profit) margins for the industry to rise and airfares to decline. I think this year will be a good one for both passengers and airline investors," he said.

This article was first published on Jan 26, 2015.
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