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Airline, aviation stocks soaring, but don't wing it if investing

Investors have reason to be bullish right now on air travel, but domestic commercial airlines' recent soar has some experts questioning whether there is still enough meat on the bone to get in now and still achieve above-average returns.

Global commercial airlines made record net profits last year at about $35 billion, according to the International Air Travel Association. That's up from nearly $14 billion in 2014 and about the same as in 2015.

North American commercial airlines felt the upswing the most, with about $20 billion of that profit.

Several favorable market conditions continue to make airlines a good value stock: low fuel prices, low seat capacity and consolidation. Even Warren Buffett, who had been quite publicly averse to airline investments in the past, announced in the fall his purchase of stakes in American, United, Delta and Southwest, all of which have since experienced a bump.

Airplane landing
Toby Melville | Reuters

"I think it is still boom time for airlines, at least for the foreseeable future," said Jack Dutton, editor of Airfinance Journal. "The U.S. carriers have particularly solid business plans and are making most of the profits in the airline industry."

That is, they are reinvesting in new aircraft and infrastructure.

"The aircraft leasing market is very competitive right now," said Dutton. "Carriers have easy access to aircraft financing at low rates, meaning they can grow their fleets and expand quickly." Commercial airlines made about 9 percent return on their invested capital, according to IATA.

But how long can this really last?

"It already had a great run, so there is always a question of 'How much is left?'" said Jerry Braakman, chief investment officer for First American Trust, which oversees $1.1 billion in assets. The company bought stake in Delta for $10.41 a share in 2012. Last year it sold the last of its Delta stock for about $40 per share, believing the recovering airline had hit its peak. It is now trading at around $48.

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Individual investors who want to get in on the action should exercise utmost due diligence to avoid losing.

To better diversify, Braakman suggests air travel–interested investors look beyond the temperamental business model of the actual airlines — with its fuel price, maintenance cost and unionized labor agreement considerations — to aircraft manufacturers and component suppliers such as Boeing, Airbus and Honeywell, whose order books can be important indicators for the health of the industry moving forward.

Look for order deferrals on large aircraft, for example, which "is not usually a good sign," he said.

If airlines are fighting for "market share and not necessarily profitability," as many foreign carriers seem to be doing, "that's not usually good for investors," Braakman said.

"Investing in a sector like the airlines industry may be a way to capitalize on an improving consumer's personal balance sheet and a return to profitability for most airlines," said Matthew Carbray, a certified financial planner for Ridgeline Financial Partners. "Low oil prices have certainly helped, as has the mergers and acquisitions that have improved scale and operational efficiency.

"We advocate investments in sector funds but recommend an exchange-traded fund instead of an individual security and want to limit it to 10 percent of the overall portfolio as a rule."

Such exchange-traded funds include NYSE's U.S. Global JETS fund, currently trading at about $28 per share and up from about $21 a year ago.

The private- and business-jet industry — particularly small cabin operations — may have some untapped upside, as well, though it may be more cyclical in nature.

Only 3 percent of the 15,000 business aircraft registered in the United States are flown by Fortune 500 companies, while the rest are flown by charities, small businesses, governments and universities, according to the National Business Aviation Association.

But in a January UBS survey, respondents — of which about 73 percent were brokers or dealers and 78 percent were from North America — mostly indicated business conditions as a 5, with a 10 being the best ever and 0 being the worst ever. About 55 percent of respondents said customer interest had improved. Both measures are up from December, indicating increased optimism for the economy since the Trump administration took over.

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Approximately 71 percent said they expected business conditions to improve over the next 12 months — the highest level of optimism since 2010.

Overall, private-jet brokers say the phones are ringing more: Jet Linx, which manages 135 private aircraft, had a 20 percent increase in miles flown since last year, said president and CEO Jamie Walker.

Members of Jet Linx pay a onetime initiation fee of $12,500 for one flier and $17,500 for up to seven fliers, with hourly rates ranging from $3,500 to $8,000, depending on the size of the aircraft. The company works with individual, rather than institutional or public, investors to grow its brand. Jet Linx grew 30 percent year-over-year in 2016.

But as with commercial airlines, a degree of caution when investing in private- and business-jet operations may be wise. "Our industry is still climbing out of the recession," said Walker. "Our growth as an industry has been very modest."

— By Kayleigh Kulp, special to CNBC.com