A strong labor market is driving wage inflation and a falling unemployment rate (now 3.6%, just above the 3.5% it was before the pandemic). Even though the U.S. GDP was down 1.4% in the first quarter, rail carloads originated in March were up 1.2% year over year. The unexpected GDP drop was driven by a decrease in exports (due to a stronger U.S. Dollar), and an increase in imports (which are a subtraction in the calculation of GDP). The Ukrainian conflict and China’s continuing lockdowns (Xi Jinping’s zero-Covid policy) are extending global supply chain disruptions. The International Monetary Fund reduced their 2022 global growth estimate to 3.6% from 4.4%, citing the Ukrainian war’s disruption of global commerce and its impact on oil and agricultural exports from Russia and Ukraine. While inflation is reducing consumer purchasing power in the U.S. (consumer prices are up 8.5% from a year earlier), the Conference Board is forecasting 3% growth for the U.S. economy.
High steel prices[1] are driving premiums on new railcar deliveries. This new equipment inflation has created opportunities in the secondary markets, benefiting existing equipment values and allowing lessors to reprice lease rates up. Overall rail traffic remains mixed. Chemicals, crushed stone and sand, food and wood products are up; grain, motor vehicles and parts, lumber and wood products, and petroleum and paper products are down. Coal is benefiting from an increase in coal-based electricity generation as natural gas prices have increased (coal’s share of U.S. electricity generation rose to 21.8% in 2021 from 19.3% in 2020). Corn and soybean prices have risen to near records (corn is more than twice as expensive than before the pandemic). Auto inventories remain at historical lows (the average new vehicle cost is $46,000 and used car prices are up 40%).
Domestic U.S. aviation passenger demand is growing[2] and business travel is returning. American Airlines said its bookings and revenue in March were the best month in the company’s history; “business travel is on track to reach 90% of 2019 levels in the second quarter.”[3] Given current world events, the international long-haul market remains a moving target and is not expected to recover until at least 2023. U.S. and European countries have closed their airspace to Russian aircraft and Russian carriers are not operating foreign leased aircraft outside of Russia’s borders. Sanction related shifts in economic activity, geopolitical uncertainty, and China’s lockdowns are impacting Boeing and Airbus order books[4]. Air freight load factors are lower, but prices are higher. Although Russia is party to the Cape Town Convention, Russia’s move to reregister Western lessor owned aircraft operating in Russia will impact the values of this equipment when (if) returned as without access to up-to-date flight and maintenance records aircraft are not considered airworthy.
Crude oil remains over $100 a barrel and elevated energy prices are a concern. Delta reported a 33% increase in jet-fuel prices for the first quarter to $2.79 a gallon with the expectation of $3.35 in the second quarter. In its efforts to reduce inflation, the Federal Open Market Committee is expected to raise its benchmark rate 50 basis points this month, and again in June with a target rate of 2.25% to 2.5% by the end of the year. The Bank of Canada has already raised its key rate by a half-point to 1%.
Existing midlife Aero and Rail equipment is significantly less expensive than new. Whether rebuilding and reconfiguring or managing aftermarket teardown and part out, there are opportunities in these hard assets. Headwinds will continue. The key to long-term portfolio profitability requires equipment specialists. Increase returns, control risk. Call RESIDCO.
Glenn P. Davis, 312-635-3161
[1] Two-thirds of the 6 million metric tons of pig iron imported by the U.S. came from Russia and Ukraine.
[2] 2.1 million people passed through airport checkpoints in late April, up from 1.4 million three months earlier.
[3] CNNBUSINESS, April 21, 2022
[4] Air Lease said it has written off more than $800 million in assets
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