A Decline in Airfares May Be Ending as Delta Raises and Summer Fares Gain

Could the decline in airline fares be coming to an end?

In the fourth quarter of 2015, the average domestic air fare fell 8.3% to $363, the lowest since 2010, the Bureau of Transportation Statistics said last week. In general, airline fares have been following fuel prices down, although at a less accelerated pace.

But now, higher fares are being signaled by a variety of indicators, including Delta Air Lines' (DAL) - Get Report refusal to match a price cut, a survey by airfare prediction app Hopper, and fare trends spotted by Michael Bentley, a partner at consulting firm Revenue Analytics.

Bentley said he sees fares starting to trend back up, partially because a move by the big three carriers to offer or expand "basic economy" fares may reduce the pressure to lower other fare categories.

Last week, Delta not only refused to match a Southwest (LUV) - Get Report fare cut, but rather reacted by raising its domestic fares. "This stands in stark contrast to historical pricing norms, which can be generally described as pricing to the lowest common denominator," wrote JPMorgan analyst Jamie Baker, in a note, adding:. "We're in uncharted waters."

Meanwhile Bentley, a former Delta pricing strategist, said basic economy fares -- which are being added or expanded by the big three carriers -- will enable them to "manage more effectively -- instead of overall demand for low prices, now they can see it as more segmented."

Additionally, Hopper, which tracks leisure fares, projected Tuesday that average domestic leisure airfares will rise 5.6% in May and will peak at about $240 in June. Unlike the Bureau of Transportation Statistics, which calculates average prices of all tickets including first class and expensive coach tickets purchased by business fliers, Hopper excludes such fares.

Patrick Surry, Hopper's "chief data scientist," indicated it's probably not worth getting excited about increasing summer leisure fares, given that summer is the most popular season for leisure travel.

"Once we move past June, consumers are starting to book cheaper trips into the fall, and overall demand is generally lower," Surry said. "We normally see a decline of about 15% between the summer peak and the lowest point in December/January, and are expecting a similar drop this year."

Still, Bentley noted that carriers have pulled back most of the low fares triggered by Dallas capacity expansion by both Spirit at Dallas-Fort Worth International Airport and Southwest at Love Field. The two carriers' low fares prompted American to cut its fares to match, and then to extend fare cuts to other cities, and then other carriers matched.

"You didn't really have to compete with that in all markets," Bentley said. "It spread a little bit too far. {Carriers} have been pulling back." Basic economy is a better way to accommodate passengers most concerned about low cost, he said.

Airlines are creatures of habit. For decades, "airline pricing has been all about matching, the idea being that if you want to be competitive, you want to be sure you're not seen as more expensive than the other carriers," he said. "That made sense when airline pricing was seen as a commodity."

Now Delta is breaking the mold. Last week. incoming Delta CEO Ed Bastian told reporters at Delta's media day that the company "decided we are not going to compete as a commodity provider. We're going to compete as a premium provider."

Between 2005 and 2015, Bastian said, Delta's average fare moved from 10% below industry average to 10% above industry average.

Bastian's approach became clear in Delta's pricing strategy. JPMorgan's Baker said last week that after Southwest lowered some domestic fares by $5 one-way for close-in bookings, Delta "elevated the entirety of its domestic structure, leaving it $10 one-way more expensive than Southwest for tickets purchased inside of seven days and $5 one-way more expensive for leisure fares.

"We have long criticized the industry for not being more creative with its pricing efforts," Baker wrote. "Why do plain vanilla increases remain the norm, only to unravel in the absence of Southwest's blessing, even in markets where Southwest doesn't publish fares?

"Why shouldn't DAL command a fare premium in exchange for an assigned seat and higher completion factor?" Baker asked. On Tuesday, Delta reported that its April revenue per available seat mile declined 4%, a smaller decline than Wolfe Research analyst Hunter Keay expected, and also reported a 99.9% completion factor.

"The pricing environment remains really hard to predict," Keay said. "Trends are improving," he said, but Delta's plan to boost May capacity by 100 basis points may threaten the improvement.

This article is commentary by an independent contributor. At the time of publication, the author held no positions in the stocks mentioned.