On April 3, 2020, a big piece of news detonated the capital markets.

From April 1 to 2, Berkshire Hathaway sold 13 million shares of Delta Airlines at an average price of $24 per share and sold 2.3 million shares of Southwest Airlines at an average price of $32.

A month ago, Berkshire bought 976500 shares of Delta at $46 a share.

The sale resulted in a 48% loss on the bottom a month ago. Based on the position cost announced in Buffett's letter to shareholders in 2019, the two sales lost a total of $284 million.

The operation was as fierce as a tiger, copying the bottom and copying it halfway up the mountain. No one thought that the stock god would pick up the flying knife with the leek, and it was the big knife of aviation. This surprised hundreds of millions of Buffett followers and a crowd of leeks in the capital markets.

Buffett said in his early years that aviation stocks were the destruction of value and was shrewd on several occasions: if any visionary investor had shot down the Wright brothers' plane at Kitty Hawk, his successors would have been grateful.

Why has Buffett's attitude towards airline stocks suddenly changed so much? Why did you reduce your holdings of aviation stocks at this point in time?

Let's first come to the conclusion that Buffett's reduction of airline stocks is not just a matter of chasing up or down. There is a reason for aviation investment.Then, pattern > cycle > oil price > exchange rate. Behind Buffett's investment in aviation stocks is the shift in the cycle of aviation stocks, as well as changes in the pattern of the US aviation industry.

Surprise: fall into the trap of American Airlines

In fact, before the sale, Buffett had quietly bought more than $10.2 billion in aviation stocks, taking over the top four U. S. airlines. Even after the sale, Berkshire remains the largest shareholder in Delta, the second largest shareholder in United Airlines and Southwest Airlines, and the third largest shareholder in American Airlines.

This runs counter to the public perception that Buffett believes that aviation stocks are "value destruction". Buffett was very pessimistic about airline stocks and thought it was a mistake to invest in American Airlines in 1989. This perception has something to do with Buffett's early experience of investing in airlines.

Buffett's investment in the aviation industry is divided into two stages, spanning more than 20 years. The first stage is from 1989 to 1998, and the second stage is from 2016 to today.

In July 1989, Buffett paid $358 million for American Airlines' convertible preferred stock with an annual interest rate of 9.25% and forced redemption for ten years, at a conversion price of $60. It's a big deal for Buffett. In 1994, the total profit of all Berkshire industries was only $660 million. The deal, which was bought at the top of the cycle, gave Buffett a roller coaster ride.

Convertible preferred stock is an investment strategy that Buffett is good at. Convertible preferred stock is a fixed income security, which is very safe in theory, with a guarantee under it and no cap at the top. It is basically equivalent to bonds before it is converted to common stock, earning an interest rate of 9.25% a year. If the stock price rises to $60, you can choose to convert to common stock and enjoy the gains from the rising stock price.

However, the American aviation industry can always be unexpected. From 1990 to 1994, American Airlines lost a total of 2.4 billion US dollars, and its shareholders' equity was almost exhausted. In 1993, American Airlines announced that it would stop paying special dividends.

This made Buffett panic. At the end of 194, Buffett adjusted the book value of the investment to $89.5 million, with a paper loss of 75 per cent. In 1995, Buffett tried to sell the investment at 50% face value, but no one was willing to buy it. In 1996, Buffett hoped that American Airlines would buy back this convertible preferred stock, but it did not succeed.

Buffett did not recoup the investment until eight years later. In 1997, American Airlines paid 9.25% of its annual special stock dividend and deferred compensation, and its share price rose from $4 to $73. In 1998, Buffett sold his shares in American Airlines and made a fortune.

But Buffett thinks it's one of the biggest mistakes he's ever made. In a 1994 letter to shareholders, Buffett blamed the investment on his hasty analysis and arrogance rather than focusing on the stubbornly high costs of the airline industry.

In a speech at the Florida Business School in 1998, Buffett confessed that he bought American Airlines because it was cheap and didn't think it was a good business. The business made money only because of good luck.

"I bought American Airlines because it is a very suitable security, but its business is not good. I don't want to buy its business. I just think its securities are cheap. I have made such mistakes in the past and may make them again in the future. The biggest mistake is not doing what needs to be done. Later, I made a lot of money, just because people happened to be very good-looking American Airlines at that time.

Ordinary people rely on luck to earn money, rely on strength to lose back. Stock gods are different, rely on the loss of strength of the money, rely on luck to earn back.

Aviation was really a bad industry at that time. In 1979, the United States liberalized aviation control, a large number of new airlines were established, and the aviation industry was caught in an irredeemable price war.

The products of the aviation industry are highly homogeneous, and every airlineAlmost all provide the same service, which makes differential pricing difficult. The product of an airline is a seat with a marginal cost of zero. If you sell one more ticket, you will earn one more; it cannot be stored and will be invalidated after take-off. This has led to a strong incentive for airlines to increase attendance by cutting prices.

The rise of Lianhang makes the price war more intense. At the 2007 Berkshire shareholders' meeting, Buffett said that when it invested in American Airlines, its average passenger mile cost was as high as 12 cents, and then Southwest Airlines (now the world's largest low-cost airline) was killed out. The cost is only 8 cents.

After 1979, the whole industry began to change from profit to sustained loss. Before 1979, the industry had suffered only three losses. From 1980 to 2010, the US airline industry lost money in 15 of the 30 years.

Buffett knows that aviation is not a good business, but American Airlines is indeed very cheap. It has a market capitalization of $1.5 billion, a share price of $35, a price-to-earnings ratio of 6.6 times earnings and a dividend yield of 9.25% (the 10-year Treasury yield was 8% at the time).

As a student of Graham, Buffett's early investment basically followed Graham's investment logic of picking up "cigarette butt stocks". But after investing in Xishi candy in 1972 on the advice of Charlie Munger, Buffett realized the magic of investing in good business. Later, Buffett's investment strategy slowly changed from picking up "cigarette butt stocks" to investing in "good business".

However, the investment made by American Airlines in 1989 is clearly picking up cigarette butt stocks again. Even Buffett, it is not easy to get rid of old habits.
In order to hold down his bargain-picking hand, every time Buffett wants to buy airline stocks, he will call an 800 hotline to seek appeasement, "I am Warren, I want to buy aviation stocks again." Similar to when you want to chop your hands, call 10086 to find a customer service sister and chat until you don't want to chop.

However, in 2016, the customer service sister could no longer hold Buffett's hand, and Buffett bought aviation stocks again.

Berkshire bought Delta Airlines, American Airlines and United Airlines in the third quarter of 2016 and became the fourth largest shareholder in American Airlines. In the fourth quarter of 2016, Berkshire significantly increased its holdings in Delta Airlines, United Airlines and American Airlines, becoming the largest shareholder of Delta Airlines and United Airlines and the second largest shareholder of Southwest Airlines.

As of December 31, 2019, Buffett's stake in the four major airlines was close to $10.2 billion, accounting for 4 per cent of Berkshire's total investment.

Why did Buffett buy aviation stocks again after 18 years?

Monopoly: then buy the whole track

2016The logic of buying big four airlines in 2008 is completely different from investing in American Airlines in 1989. Eighteen years ago, Buffett bought cheaply, but this time, Buffett bought pattern.

When Buffett first invested in aviation stocks in 1989, the US aviation industry was in a state of perfect competition. A big price war between airlines lasted until 2008.

In 2008, with the outbreak of the financial crisis, the sharp decline in aviation demand and the rise in oil prices, a large number of airlines went bankrupt, and the aviation industry set off a wave of mergers and acquisitions. Aloha Airlines went bankrupt, Sky bus collapsed, Delta acquired Northwest Airlines, United United merged with Continental Airlines, and American Airlines and US Airways merged.

In 1997, there were 104 airlines in the United States; in 2014, there were only 52. By 2016, the market share of the four major airlines had reached 75%.

This wave of mergers and acquisitions has changed the pattern of the aviation industry. The aviation industry has gone from melee to monopoly, which brings excess profits.

Buffett bought up four major airlines in the third and fourth quarters of 2016, becoming the largest shareholder in Delta Airlines and United Airlines, and the second largest shareholder in Southwest Airlines and American Airlines.

Not only Buffett, but Wall Street also sees the opportunity brought about by an improvement in the structure of American airline stocks. Wall Street is behind almost all American airlines, and the shareholders of the four major airlines are highly overlapped. It is not common for Wall Street's financial giants to hold hands and stand side by side in the US aviation industry, rather than fighting to the death.

At Berkshire's shareholders' meeting in 2017, Buffett explained that the reason for the investment was the change in the airline industry.

"the competition in the aviation industry is very fierce, and the question is whether airlines still have to fight to death together as they did in the past.

In terms of passenger mileage, the passenger utilization rate of the aviation industry has been maintained at more than 80% recently. Compared with the historical level, the passenger utilization rate of airlines will remain high in the next 5 to 10 years. In the past, airlines went bankrupt because passenger utilization was generally low.

I am optimistic about our investment in airlines. We bought four major airlines at the same time, because we can't see which one can do well. It's just that I think, in terms of probability, airlines can still get more objective returns in the next five to ten years. "

Ordinary person: I don't see which company can do well. I need to study it carefully.

Buffett: I can't see which company can do well, so I bought it all.

The last time Buffett voted for American Airlines, this time Buffett bought the wholeThe track. The last time Buffett bought it cheaply, this time it was a pattern.

In fact, before the outbreak, the investment in the four major airlines made Buffett a lot of money.

Since 2010, with the improvement of fundamentals and the growth of US stocks for a decade, US airline stocks have entered a golden era of ten times in a decade and have outperformed the S & P 500 by a large margin. December 31, 2010 is the base, and as of December 31, 2019, Delta, United and Southwest Airlines had excess returns of 167%, 72% and 120% for the S & P 500, respectively.

Airline stocks are still rising after Berkshire bought heavily. Berkshire's stake in Delta costs $44 and Southwest's $42. On Feb. 14, Delta and Southwest both closed at $58. As of Feb. 14, the paper gains of the two deals were 24% and 38%, respectively.

On February 27th, Delta fell by more than 20%, and Berkshire was at the bottom of Delta. In an interview with Yahoo Finance in March, Buffett also said he would not sell airline stocks. This is all based on the logic of improving the structure of aviation stocks.

But why did Buffett sell airline stocks in just one month?

Evolution: aviation crisis under the Black Swan

2016Buffett followed the general formula of aviation stock investment: pattern > cycle > oil price > exchange rate. However, under the impact of the once-in-a-century black swan such as the outbreak of the COVID-19 epidemic, aviation stocksThe logic of investment has changed from pattern-led to cycle-led. This formula should be changed to cycle > pattern > oil price > exchange rate.

At the end of February and early March, the epidemic in the United States did not appear to be serious. On Feb. 26, Trump also compared the epidemic to the flu, saying that the United States had taken all measures to deal with it. Presumably moved by Trump's confidence, Berkshire bought Delta the next day.

However, no one thought the black swan would come so soon. And there was more than one, and a large group came.

With the outbreak in Italy, Iran and the United States, U. S. stocks were cut four times in 10 days starting on March 9. Airline stocks took a high dive, and Delta shares halved from February 14 to April 1.

Behind the violent reaction of the capital market is aviation.The great crisis facing the industry.

All four airlines are cutting capacity, giving employees time off and even firing employees to reduce costs. American will cut international capacity by 3/4 between March and May, United will halve capacity in the coming months, and Delta will cut capacity by 40 per cent, the biggest cut in Delta history.

On April 4th, the day after the announcement that Buffett had sold his stake in Delta, Edward H. Bastian, CEO of Delta, said in a memo to employees that Delta's revenue was expected to fall 90% in the second quarter, while still consuming more than $60 million in cash a day.

Analysts at JPMorgan Chase & Co believe that by the end of May this year, most airlines will face the risk of bankruptcy.

This is not alarmist talk. As of December 31, 2019, Delta had $2.882 billion in cash on its account, which would only last 48 days without business cash inflows or government assistance. Affected by the suspension of flights due to the epidemic, the current cash may be less than $2.8 billion. Even so with Delta, other airlines are in an even more difficult position.

On April 5th RavnAir, Alaska's largest airline, filed for bankruptcy. According to the grapevine obtained by Reuters, the Arras congressional delegation warned the US government that many airlines in the state would go bankrupt.

The situation in the aviation industry is completely different from that of a month ago. The demand for travel has fallen sharply, the net interest rate of the aviation industry has fallen, and the risk of bankruptcy has soared.

As Liu Zheng, chief transportation officer of CITIC, commented, "the short-term impact of the epidemic on passenger flow has continued to exceed expectations, but the long-term uncertainty of the impact on the US economy is the cause of Berkshire aviation investment."The biggest obstacle, cycle leading beyond the pattern of improvement.

Going back to the previous aviation stock investment formula, pattern > cycle > oil price > exchange rate, under the impact of the epidemic, the cyclical factor has gone beyond the pattern of the aviation industry and become the dominant factor in investment, and the US aviation industry has ushered in an inflection point of declining profit margins.

No one dares to draw conclusions about how long this downward cycle will last. After all, during the collapse of US stocks, not only the new leeks were rubbed on the ground, but also many capital veterans were repeatedly beaten in the face.

At this point, I would like to refute two popular misunderstandings about Buffett's reduction of airline shares in the market.

First, Berkshire simply reduced its stake to less than 10 per cent in order to avoid strict regulation and scrutiny when it was higher than 10 per cent.

According to announcements from Delta Airlines and Southwest Airlines, Berkshire's holdings are indeed very small, reducing its stake in Delta Airlines from 11.2% to 9.2%, while Southwest Airlines has reduced its holdings from 10.4% to 9.9%, all near the 10% red line.

This interpretation ignores an important fact that the share of public reduction is not equal to the share of actual reduction.

10% is a red line for investment. Large transactions will affect market expectations, which in turn interfere with the results of investment operations. Reducing its stake to less than 10 per cent can avoid the problem of disclosing the deal within two days. Even if we do not continue to reduce the holdings at present and avoid the problem of disclosure of transactions, it can also bring great convenience for the subsequent reduction.

As to whether Berkshire has reduced its holdings of Delta Airlines and Southwest Airlines at the same time, it will not be known until Berkshire releases its quarterly report in May. Whether there will be more cuts after reducing Delta and Southwest to less than 10% will only be answered in Berkshire's second-quarter results in October.

Second, the operation may not be done by Buffett, but by two of his fund managers.

Before Buffett even opened his mouth, onlookers picked up the god's pot and looked everywhere for bad luck.

Buffett said he was in charge of investing in three of the airline stocks, while one of his portfolio managers, Todd Combs and Ted Weschler, was in charge of investing in the fourth, according to a report quoted by Reuters by CNBC.

Buffett himself made it clear at the Berkshire shareholders' meeting in 2017 that investing in aviation stocks is the logic of being optimistic about the track. This time, the possibility of reducing two airline stocks at the same time without Buffett's consent is very low.

It doesn't make much sense to worry about whether it was Buffett's own operation. Behind this rare bottoming reduction is the dilemma faced by the entire aviation industry and even the US economy. Through Berkshire's several major operations in aviation stocks, we can see the changes in the investment logic of US aviation stocks, as well as the changes of the US aviation industry in the past 30 years.

Compared with the American aviation industry, China's aviation industry is obviously different. In China, the logic of pattern > cycle > oil price > exchange rate does not seem to work.

Leap: a silent rise

Compared with the United States, China's aviation industry has three major characteristics.

first,Strong regulation promotes the supply side to form a monopoly pattern.第二，There is great potential for demand-side growth.Third,The penetration rate of low-cost aviation is very low.

First of all, China's aviation industry is a strong regulatory model. In 2002, China's aviation industry, which is still developing, formed a competitive pattern dominated by China Eastern Airlines, China Eastern Airlines and China Southern Airlines under the guidance of the policy. The US aviation industry did not form a monopoly through spontaneous mergers and acquisitions until after the financial crisis in 2009, when the US aviation industry has entered a period of recession.

In 2008, after the financial crisis, China's aviation industry set off a wave of mergers and acquisitions, and the monopoly pattern was further strengthened. In 2010, China Eastern Airlines, China Southern Airlines and China National Airlines had a market share of more than 75%, while the market share of the four major American airlines did not reach that value until 2016.

After 2016, the applications of newly established airlines have basically ceased to be examined and approved, and the era in which 10 million-level registered capital will be able to build a new airline will never return, and the monopoly position of the three major airlines will be more stable.

The high degree of regulation of China's aviation industry has promoted the formation of a monopoly in advance, but it has not come out of the golden decade of US aviation stocks. In addition to the strong cyclical attribute of the aviation industry itself, Sino-American AirlinesIn addition to the common reasons for the industry, there is another big difference in China's aviation industry: the strong control of air fares.

The strict industry access policy has quickly shaped the monopoly pattern of the aviation industry and avoided the excessive competition experienced by the American aviation industry, but the highly regulated ticket prices have also hindered the growth of airlines' profits.

Although the control of air fares has been continuously liberalized since 1992, airlines have no real pricing power.

The capital market has been strongly looking forward to the liberalization of air fares. In January 2018, air fare control was further liberalized, and domestic routes operated by more than five air transport enterprises could be priced independently by airlines. This policy stirs up the nerves of the capital markets.

Onlookers at one end worry that ticket prices will not be able to afford to fly, while capital markets at the other end see a steady stream of profits after ticket price increases are opened.

The concept of aviation stock changing into consumer stock is also popular in the capital market. If aviation stocks can break away from the cycle stock valuation model based on PB, and adopt the PE method commonly used in consumer stocks, the imagination can be further opened.

Before the release of the document, the news of deregulation of air fares had quietly flowed out. Some analysts began to calculate the flexibility of the liberalization of airline fares, and some research reports took advantage of the opportunity to boost aviation stocks, which rose sharply as desired.

But market expectations were quickly digested and the capital markets returned to calm, leaving only chicken feathers after the hype.

Wu Yifan of Huachuang Securities Research Institute published a 56-page in-depth report on the reaction of the capital market at that time. Wu Yifan believes thatThe market accepts the consumption attribute of aviation stocks, but does not value the consumption of aviation stocks. The core lies in the periodicity of capacity release and the regulation of ticket price caps.Which is the reason mentioned above.

Although fare controls are slowly liberalizing, airlines may still be several cycles away from fully autonomous pricing.

Second, China's population is four times that of the United States, but it still has 1 billion.I've never been on a plane.

400 million people have flown in China, which sounds like a big market. But on the other hand, there are 1.4 billion people in China, and there are 1 billion people who have never been on a plane, which gives more room for imagination.

At present, among the country's 235 commercial airports, 192 are located in second-and third-tier cities. The population of these cities is millions of people, and any one of them is equivalent to an European and American country.

Excluding the impact of the 2008 financial crisis, China's civil aviation passenger traffic grew by an average of more than 15 per cent between 2005 and 2011. From 2011 to 2018, the average growth rate of civil aviation passenger traffic is still more than 10%. In 2004, after SARS, the growth rate of civil aviation passenger traffic was as high as 40% year on year.

According to Boeing Co's forecast, assuming the per capita flight distance remains stable, China's civil aviation passenger volume will still be able to grow at an annual rate of 7.9% in the next 10 years.

Except for the difference between the supply side and the demand sideCompared with American Airlines, China's low-cost airline penetration rate is extremely low.

When it comes to cheap Airlines of China, I have to mention a 10 billion yuan private equity manager, Zhang Ling, who used to be a star fund manager at ICBC Credit Suisse.

In China, aviation stocks are not particularly bullish, and many investors say they are more optimistic about airport stocks. Zhang Ling of Minghe Investment is one of the top 10 billion private equity investors, one of the few who publicly expressed optimism about China's aviation industry.

In Weibo Corp, Zhang Ling wrote:

"the aviation industry is a rare supply side and demand, but most companies have no investment value at all, almost capital rubbish, except for a small number of companies that can prove their management ability. "

Under these two Weibo Corp, Zhang Ling attached a picture of Spring and Autumn Airlines.

Spring Airlines is the largest low-cost airline in China, similar to Southwest Airlines in the United States.

Not only in the United States, but also in the world is growing at a high speed. From 2006 to 2018, the global market share of low-cost airlines doubled from 15% to 31%. Among them, the penetration rate of low-cost Airlines of China is eye-catching.

In 2018, the penetration rate of low-cost airlines in Europe and ASEAN was more than 50%, that in the United States was 32%, and that in Latin America was 23%, while that of Chinese low-cost airlines was only 11%. If you bid against the United States, China low-cost Airlines still has twice as much room for growth. Even if the benchmark is Latin America, it can still be doubled.

Although both low-cost airlines and large airlines are air services, the cost of low-cost airlines is much lower. Low-cost airlines reduce costs by providing a single model, a single seat, expanding the number of seats, eliminating meals, and reducing the weight of free luggage. Big Airlines mainly covers 83 million people in the north, Shanghai, Guangzhou, Shenzhen and Hangzhou, while low-cost Airlines mainly covers the population of first -, second-and third-tier cities.

Cost is the most important factor affecting airlines' profits. Buffett once complained about the high costs of airlines and blamed in part the rise of low-cost Southwest Airlines for his poor management after investing in American Airlines.

At a time when the three major airlines are competing for front-line passengers, China's low-cost airlines are quietly rising on the second and third lines.

The end.

From Buffett's investment in the aviation industry over the past 30 years, we can see the changes in the American aviation industry. The recent reduction is also a microcosm of the difficulties facing the US aviation industry.

The domestic aviation industry has also been hit by the epidemic, but it is obviously much less affected than the US aviation industry.

On the one hand, compared with the outbreak in the United States, the domestic outbreak is relatively mild and has been brought under control. The epidemic is only a short-term shock, and consumption is expected to recover slowly.

On the other hand, China's three major airlines are all state-owned enterprises, and the government subsidizes airlines every year. China's three major airlines have little risk of bankruptcy, and the government is in charge of the collapse of the sky.

These two factors determine that the cycle is not the dominant factor in the investment of Chinese aviation stocks, and the supply-side pattern improvement still occupies a dominant position.

From the perspective of the pattern, the epidemic may be good for Chinese airlines. During the epidemic, the state exempts the civil aviation development fund that airlines should pay, and supports mergers and acquisitions of airlines, which may lead to the third round of industry consolidation in the aviation industry. The further optimization of the pattern will improve the monopoly profits of the industry.

As aviation consumption permeates into second-and third-tier cities, it is unclear whether China's aviation stocks will usher in a golden decade, but the rise of China's low-cost airlines is just around the corner.