Southwest Is a Much Better Pick Now Than American Airlines Stock

American's huge debt pile makes it one of the worst picks in the challenging new air travel environment

The last few weeks have been big for airline stocks. Moderna (NASDAQ:MRNA) gave the industry a glimmer of hope with a novel coronavirus vaccine update. States continue to reopen, and travel demand is on the rise. American Airlines (NASDAQ:AAL) stock has been a big beneficiary.

While a vaccine would be a Hail Mary pass for beleaguered airlines, I wouldn’t necessarily rush out to pick up AAL stock.

Why? Even if a vaccine comes out next autumn — and that would be an absolute best-case scenario — airlines will struggle to recover over the next few quarters. American Airlines simply isn’t well equipped to get through that struggle, making it a poor choice to play the rally in airline stocks.

Debt Is Weighing Down AAL Stock

From an investment standpoint, American Airlines’ biggest problem right now is debt. The firm is sitting on a $21.6 billion debt pile — high by any standard. AAL stock is easily one of the most debt-ridden airline names you can pick up right now.

United Airlines (NASDAQ:UAL) is the only other airline that comes close with long-term debt obligations of $13.2 billion. By contrast, Southwest Airlines (NYSE:LUV) is carrying just $2.3 billion worth of long-term debt. 

Understandably, American is burning through cash right now as it works to stay afloat amid extremely challenging conditions. But that’s going to add up to a huge debt pile that will follow the firm around for quite some time. 

InvestorPlace’s Mark Hake estimates the firm will be sitting under a $40 billion debt obligation by the end of the year. That’s disastrous from an investment standpoint because it means the company will be shelling out billions each year just to pay off the interest.

Should You Believe in the Vaccine Turnaround?

Some might argue that the prospect of a vaccine could bring a faster-than-expected recovery in the transport sector as it means borders would be open and people could move about freely. That may be true, but that scenario is unlikely to play out.

Even if we could be certain a vaccine was coming, there’s no way to predict how readily it would be accepted by Americans, let alone the rest of the world. Here’s a new drug that’s been pushed through the testing process as quickly as possible — will people trust it? There’s already been some pushback regarding a mandatory vaccination and a drug hasn’t even been approved yet.

Plus, there’s the added impact of the economic downturn that the world will be experiencing, vaccine or not. Unemployment is expected to remain in the double digits for the next few quarters, a fact that will likely keep many people from traveling. Not to mention that companies will cut business travel to the absolute bare minimum in an effort to save money.

American Airlines Isn’t All Bad

While things look bleak for airlines right now, it’s worth noting that demand will eventually recover. That’s especially true if a viable vaccine makes it to market. Regulators are already looking at ways to make airports safer while the coronavirus is still a factor. 

But the world of airline travel will probably look very different, at least in the near term. That’s not great news for American because the firm will struggle to compete with domestic rivals like Southwest which are known for their low-cost models. 

However when air travel does restart, American may offer an edge because of its business class seating options. Many travelers worried about contracting the coronavirus may want to avoid a crowded cabin. Companies like Southwest don’t offer first-class cabins.

But then again, other carriers like Delta Air Lines (NYSE:DAL) and United offer premium seating with more space, and those companies aren’t nearly as highly leveraged.

The Bottom Line

With all of the uncertainty surrounding the novel coronavirus and the future of the U.S. economy, AAL stock just isn’t worth the risk.

Investors who are keen to pick up an airline stock and play the sector’s recovery should be looking to Southwest, which boasts a far more solid balance sheet and will likely see its business recover faster as domestic travel returns at the end of the summer. 

Laura Hoy has a Finance degree from Duquesne University and has been writing about financial markets for the past 8 years. Her work can be seen in a variety of publications including InvestorPlace, Benzinga, Yahoo Finance and CCN. As of this writing Laura Hoy did not hold a position in any of the aforementioned securities.