Richard Aboulafia: January 2018 Letter

Dear Fellow 2017 Skin-of-Teeth Survivors,

I’m way late with this year-end letter, but before the 365-day atrocity that was 2017 fades from our collective memory, I’d like to briefly summarize what just happened, from our industry’s perspective. Here’s my list of Highs, Lows, and Neithers. Highs first (strangely, for me, there were more highs than lows):

  1. The persistence of cheap financing. Until recently, the cost of cash was more or less linked to the cost of dirt. The Effective Federal Funds Rate was 0.65% in January 2017, doubling to 1.30% in December. That’s still pretty cheap. It’s projected to top 2% this year, and crazy heavy deficit spending could drive it higher, but then again, it was above 5% for most of 2007. Through 2017, at least, jetliner financiers rejoiced and jetliners remained an asset of choice.
  2. Amazing traffic. According to IATA, passenger traffic grew 7.6% last year, compared with a ten year average of 5.5%. Comparing GDP growth with global traffic growth, we get a terrific story: People are spending a higher percentage of their income on travel. Thanks in part to my family’s Amazon Prime membership, air cargo is in excellent territory too, with 9% growth.
  3. The continued China surge. When it comes to traffic outperforming GDP growth, China is leading the way, with traffic growth staying high even as the country’s economic growth decelerates. Excluding leased jets, (and China’s growing role in jet finance), China took 329 jetliners last year, or 22.8% of total world output. That’s the second time that China was the biggest market in the world (2015 was the first time).
  4. The 787. After a long and painful road, the Dreamliner is back on track as an international air transport category killer. It got 94 net orders in 2017, the most for any twin aisle (per below); 14-per-month is now an achievable output rate, for a few years. After accumulating $28 billion in deferred program losses, Boeing began earning respectable profits on deliveries last year.
  5. The Fighter Market. Growing by double-digits annually. The wealth is broadly spread; F-35 deliveries ramped up to 66 last year, while orders from Kuwait, Oman, Bahrain, Qatar, etc. kept Fourth Generation production lines in business too.

Those first three factors, together, will keep the record-setting jetliner super-cycle going through 2020, and perhaps beyond. At the very least we’ll have 16 years of solid growth. Reason alone to celebrate an otherwise wretched year! But 2017 saw a few Lows, too:

  1. Defense program Can-Kicks. Myriad program decisions got deferred, particularly the T-X trainer and JSTARS recap. These programs are both important, yet it’s quite possible that they’ll keep getting kicked to the right. Looking at it from another angle, the Air Force’s OA-X competition has somehow lived to see another year. These planes are useful for the US’s less wealthy allies (Chad, Lebanon, Kenya, etc.) but why the USAF? No other peer air service operates planes in this class. But for adversaries seeking to inflict casualties on US pilots, this is a useful program; low, slow platforms make much easier targets.
  2. The Great A380 Can-Kick. It looked like the Bloatliner was about to receive a well-earned mercy-killing towards the end of the year. Then, in January, Airbus signed a Letter of Intent with Emirates for 20 firm and 16 option planes in exchange for a ten-year production line guarantee. Permit me to summarize what just happened: Outgoing Airbus executives (a redundant term, since most are leaving) managed to put off the inevitable horror of an A380 line shutdown. In doing so, they saddled the company and its incoming management with ten years of crushing overhead. They’re stuck with colossal empty cathedrals serving merely to deliver six heavily discounted jets per year (at most). Only upside: I get another decade of foolishness to criticize.
  3. The Widebody Market Glut. While single aisles drive the jetliner market ever-upward – 13.6% growth by value last year – twin aisles are suffering from a serious overproduction hangover and general glut, with a 5.2% decline. There were just 222 net orders in 2017, following an equally anemic 242 in 2016. Deliveries were 394 last year and 401 in 2016. Thus, the two-year book-to-bill was a miserable 0.58-1. And pretty much all twin aisle programs other than the 787 and A350-900 are running low in the backlog department. When was the last time the 777/777X, A330/A330neo, or A350XWB got a sizable order?
  4. Boeing’s CSeries Trade Complaint. The ultimate corporate self-inflicted wound. Ouch.

Finally, there were the Neither Here Nor Theres. The first two are basically dodged bullets:

  1. Protectionism Shelved. The death (or deferral) of incredibly bad America First trade ideas was the single most merciful trend of 2017. One year ago, there were myriad terrifying plans mooted: a 45% tariff on imports from China, a Border Adjustment Tax penalizing imports (and guaranteeing retaliation), US withdrawal from NAFTA and the WTO. Today, these ideas are dead or dormant; Steve Bannon has left the building (even if Peter Navarro still prowls the corridors). The aerospace world can be grateful for the fading of this toxic menace. NAFTA’s still in danger, but that’s a manageable risk.
  2. The end of Trump’s weapons program threats. A year ago, incoming President Trump was noisily threatening multiple programs, including the F-35, Air Force One, and F/A-18E/F. One year later, all of these programs enjoy equal or higher funding levels. The only downside to the end of these threats: despite all the claims, there was absolutely no change to any weapons programs costs, either. And the swamp was flooded, not drained. That’s another story.
  3. The US Defense Budget. Multiple continuing resolutions, endless delays. Finally, we’ll have a two-year bill that offers a respectable increase but with nothing like the huge buildup Trump promised. Perhaps FY2020 will see big numbers, but the process has not been encouraging.
  4. Ex-Im Bank Re-authorization. Ex-Im ceased to play a role in jetliner finance in 2016, but for a time last year it appeared that Trump could be the only Republican who might resuscitate it. Unfortunately, he nominated a wildly unsuitable new chief, who was promptly rejected by the Senate Banking Committee. But the idea of an Ex-Im comeback is still alive.

Despite all the chaos, 2017 was good to our industry. Let’s hope for all the best in 2018 too.

Yours, ‘Til Trump’s Washington Military Parade Bumps Up DoD’s O&M Budget,

Richard Aboulafia