Professor Buffett’s Airline Lesson
The worst sort of business is one that grows rapidly, requires significant capital to engender the growth, and then earns little or no money. Think airlines. Here a durable competitive advantage has proven elusive ever since the days of the Wright Brothers. Indeed, if a farsighted capitalist had been present at Kitty Hawk, he would have done his successors a huge favor by shooting Orville down. — Warren Buffett
When it comes to investing like Warren Buffett, investors need to constantly be on the lookout for “sure thing” investments. These companies traditionally have boring, easy-to-understand business plans and a lot of potential upside. Looking toward the new year, as shown by Buffett’s diverse holdings in Wal-Mart(WMT Quote), Exxon Mobil(XOM Quote) and Kraft(KFT Quote), firms meeting these requirements run the sector gamut.
While the investor appears willing to place his bets on a firm from any industry, one sector the Oracle of Omaha and Berkshire Hathaway (BRK.A Quote) will likely be wary of in 2010 will be the airlines.
In the past, Buffett has been known to take bets — and losses from this volatile industry. In fact, on two occasions in particular, Buffett has been burned by this industry. The most notable of these losses took place in 1995, when he was forced to write off 75% of his $385 million investment in U.S. Air.
While the losses from U.S. Air would dissuade most investors from playing the industry in the future, Buffett refused to give up. In 1998, the investor took another stab at the airlines when he acquired the fractional private jet-ownership firm, Net Jets.
That move proved profitable in the early years; recently, the firm has faced its share of rough terrain, causing considerable losses for both Buffett and Berkshire. Though Berkshire continues to hold onto NetJets today; in response to the hits, Buffett has taken harsh action against the firm. These actions have included replacing the company’s founder, Richard Santulli with the head of MidAmerican, David Sokol, and slashing hundreds of jobs.
Although they have failed to perform favorably for Buffett, ETF investors have the opportunity to play the global airline industry using the Claymore/NYSE Arca Airline ETF(FAA Quote).
FAA’s top holdings include Delta(DAL Quote), AMR (AMR Quote), Southwest(LUV Quote) and UAL (UAUA Quote). Though the fund is designed to provide investors with exposure to the global airline industry, firms from the U.S. account for nearly 70% of the instrument’s total portfolio.
FAA managed to hold up well during the broad market rally in 2009, Buffett has shown time and again that having long term success playing the airline industry is easier said than done. Looking to the New Year, investors trying their luck with FAA should be prepared for any steep dips that come with holding a focused single industry ETF.
Instead, a safer long-term play on transports will prove to be the iShares Dow Jones U.S. Transportation Average Index Fund(IYT Quote). Because the fund provides investors with comprehensive exposure to the transportation sector, it is impossible for IYT to avoid the volatile airline industry. However, this subsector accounts for only 7.5% of its total portfolio. The Buffett-backed railroads, on the other hand, account for more than 31% of the instrument.
Ultimately, when it comes to playing transports, IYT will prove to be much more of a sure thing in 2010 and beyond. By holding this instrument, investors are not only better equipped to face any ups and downs in the sector, but with a company like Buffett’s Burlington Northern Santa Fe(BNI Quote) heading the index, consistent returns can be expected over the long term.
