“There are 30,000 jets out there flying around right now,” said James McManus, managing director of Alliance Bernstein CarVal, during the Canadian Investment Review‘s 2023 Global Investment Conference.
“That represents equipment value of about $700 billion . . . [and] around $100 billion in annual deal flows in the form of new aircraft deliveries, lease rollovers and secondary market trading activity.”
McManus, who has spent the past five years focused on the commercial aviation leasing market, said the asset class offers defined benefit pension plan sponsors with access to robust cash yields over the long term. “These are pieces of equipment that have a 20-year useful average life. The leases are generally long-term contracts providing decent cash flow visibility and the commercial aviation business enjoys excellent long-term fundamentals.”
While aviation leasing slowed during the coronavirus pandemic, it has exceeded global economic growth for most of its history. With travellers returning to the skies, aviation leasing looks primed to perform better than it has, even during its strongest years, he says.
Another factor playing into the sector’s favour is the growth of the middle class around the world, particularly in India. “To give you a sense of how under penetrated emerging markets are, the Indian market would need to grow its capacity 37-times over in order to reach the market penetration of the U.S.”
At their current pace, airplane manufacturers will struggle to meet the increase in demand, he said. Last year, multinational aerospace company Airbus released a report that found the world will need to increase its supply of operating jetliners by 25 per cent in the next decade. On top of that, about two-thirds of the planes in operation today will need to be replaced.
While the demand is likely a hindrance to travellers, McManus said it’s a boon to institutional investors interested in leasing aircraft. “Aviation cycles are relatively easy to predict and you can identify attractive entry and exit points. It offers investors a full spectrum of risk-return across capital structure, across asset type, across asset vintage, across geography and across credit-counter party risk.”
While he said it may also indicate that allocations directly in the aviation sector could experience steep growth in the medium term, he added allocations to aviation leasing offer a compelling advantage. “Commercial aviation and aircraft leasing are obviously linked to the same dynamic, but they have very, very different business operating models. Leasing is an asset class that has a low correlated return profile due to the long-term contractual nature of the cash flows.”
The reliance on asset portability also provides aircraft leasing with the ability to escape regional markets during downturns, said McManus. “I can take my asset out of an under-performing market and I can put it into a performing market. That combination of cash flow visibility and asset portability usually delivers a very manageable downside profile.”
Leasing isn’t without its own risks, he added, noting that, by moving assets between leases, cash flows can be temporarily restricted. To circumvent this problem, he recommended pursuing longer-term leases and seeking expert advice to craft leases effectively.
“It also helps to sell an asset with some contractual cash flows attached, [which makes it] a little bit like owning a bond. The residual, in theory, can benefit from inflation, but there’s a duration component to how you structure your leases.”
Read more coverage of the 2023 Global Investment Conference.