Airline Ticket Prices Keep Plunging as Competition Stays Hot

Travelers have many reasons to complain about airlines, as reliability and service standards in the industry remain so-so, at best. However, high fares are increasingly a problem of the past.

In the last 10-15 years, fast-growing budget carriers like Spirit Airlines (NASDAQ: SAVE) and JetBlue Airways (NASDAQ: JBLU) have made air travel more affordable for many people. Meanwhile, the intense competition they have provided has forced high-cost carriers like United Continental (NYSE: UAL) to reduce their own fares and become more efficient.

Average airfares in the U.S. declined on a year-over-year basis again in the first three months of 2017. This was the ninth consecutive decline, according to government statistics. With a new fare war brewing in the industry, prices could decline even further in late 2017 and 2018.

Prices march downward

In the first quarter of 2017, the average U.S. domestic airfare reached $352, down from $361 a year earlier, a decline of about 2.5%. Adjusting for inflation, the year-over-year fare decrease was roughly twice as large.

In fact, adjusting for inflation, last quarter's average fare of $352 was the lowest ever recorded in the first quarter since the government began collecting statistics in 1995. The previous inflation-adjusted low of $360 was reached in Q1 2009, during the depths of the Great Recession. Inflation-adjusted fares are down 28% from the record high recorded in 1999.

To be fair, airline fees have increased significantly compared to the 1990s. But even including the higher fees that are common today, air travelers are paying less than ever on an inflation-adjusted basis.

A brief respite for airlines

On the bright side for airlines -- if not for air travelers -- the average domestic airfare for the first quarter of 2017 was slightly higher than for Q4 2016, which in turn was higher than the average fare in Q3 2016.

This sequential improvement likely paved the way for a return to year-over-year fare growth last quarter. The official government statistics for the second quarter won't be released until October, but the major U.S. airlines -- including Spirit, JetBlue, United, and many other carriers -- all reported that unit revenue returned to growth last quarter.

However, this may have been an anomaly more than the beginning of a trend. A new round of fare wars seems to have broken out in the airline industry, driving prices down again.

Competition is heating up

Under its new management team, United Continental has become much more aggressive about claiming its "fair share" of the market. This has involved increasing capacity in several of its hubs -- often on routes where it competes with other legacy carriers -- and slashing fares on routes where it competes with discounters (especially ultra-low cost carriers like Spirit Airlines).

In the first quarter of 2017, the combined effect of rising competition and an intense response by United was on display at Newark International Airport, one of United's largest hubs. In late 2016, the FAA removed Newark's slot constraints, allowing airlines to add flights there for the first time in many years. Spirit Airlines seized this opportunity to start flying to Newark. A variety of other budget carriers increased service there as well.

United responded by slashing its own fares. Fares are particularly depressed on routes from Newark to Florida, according to JetBlue's management. In the first quarter, average domestic airfares at Newark Airport plunged 13% year over year (15% adjusting for inflation).

If anything, the decline in airfares at Newark Airport has accelerated since the first quarter. Furthermore, Spirit Airlines' management noted on the company's recent earnings call that intense pricing pressure has spread to Chicago, Houston, and Denver. (It's not a coincidence that United Continental has hubs in all of those markets as well.)

The latest round of industry fare competition will probably die down after a while. But until it does, air travelers throughout much of the United States will continue to enjoy historically low airfares. Moreover, the ongoing growth of carriers like Spirit and JetBlue ensures that fares -- at least adjusted for inflation -- will never return to the sky-high levels of two decades ago.

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Adam Levine-Weinberg owns shares of JetBlue Airways and Spirit Airlines and is long January 2019 $10 calls on JetBlue Airways. The Motley Fool recommends JetBlue Airways and Spirit Airlines. The Motley Fool has a disclosure policy.