Sector Screener: expect further capital gains from this pair

The FTSE 350 Travel & Leisure sector is yet to fully recover from the effects of the pandemic. While the wider index now trades 15% above its level from February 2020, the sector is still 12% down over the same period. This is despite its 15% surge over the past year, with investors still apparently concerned about the near-term financial prospects of travel and leisure companies.

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Indeed, while travel restrictions associated with the pandemic are long gone, other risks such as sticky inflation, a restrictive monetary policy and an uncertain global economic outlook are now present.

Short-term uncertainty

In the short run, it would be unsurprising if they weigh on the sector’s performance relative to the wider index. Inflation, for example, surged to 3.5% in April, much higher than the Bank of England’s 2% target. While this may not prompt a renewed cost-of-living crisis, it could nevertheless put additional pressure on household budgets. In turn, this may reduce the scope for higher spending on discretionary items such as those in the travel and leisure sphere.

Furthermore, a rise in inflation is likely to moderate the pace of interest rate cuts to at least some extent. This could have a negative impact on the prospects for wage growth, employment levels and the wider economy’s performance. Given the inherent cyclicality of the Travel & Leisure sector, it would therefore be unsurprising for it to experience a period of heightened volatility over the coming months.

Long-term opportunities

That said, the long-term prospects for travel and leisure stocks remain highly encouraging. While inflation is set to spike in the short run, the Bank of England expects it to subsequently fall to its target by 2027. This should allow policymakers to continue to implement a looser monetary policy over the medium term. The central bank may even be able to cut interest rates while inflation is moving further away from its 2% target in the coming months, given that it anticipates an elevated pace of price rises will prove to be only temporary in nature.

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When combined with the effects of previous interest rate cuts, which have not yet had their full impact on the economy due to the presence of time lags, the outlook for consumer spending is relatively upbeat. Falling interest rates plus modest inflation should equate to further positive real-terms wage growth that, in turn, provides an operating environment which is more conducive to profit growth for cyclical stocks across the Travel & Leisure sector.

Source ShareScope. Data as at 21 May 2025. Past performance is not a guide to future performance.

Source ShareScope. Data as at 21 May 2025. Past performance is not a guide to future performance.

Relative resilience

Despite their upbeat long-term outlook, investors still appear to be demanding a wide margin of safety among travel and leisure firms. Their attractive valuations suggest there is scope for significant capital growth over the coming years. Investor sentiment and market valuations are likely to gradually improve as operating conditions do likewise, with upward reratings potentially being complemented by the effects of rising profits.

While an uncertain near-term economic outlook appears to be affecting market sentiment towards travel and leisure firms, sector incumbents could prove to be more resilient than many investors realise. After all, an annual holiday abroad is likely to be viewed as a staple, rather than a discretionary item, by many consumers.

This could mean that the financial performance of travel and leisure firms is less affected than anticipated during periods of economic weakness. And with many sector incumbents having solid financial positions, they are well placed to ride out temporary economic and industry-related challenges.

Source ShareScope. Data as at 21 May 2025. Past performance is not a guide to future performance.

IAG

British Airways owner International Consolidated Airlines Group SA (LSE:IAG), for example, recently released first-quarter results that highlighted its improving financial position. Net debt declined from €7.5 billion (£6.3 billion) to €6.1 billion during the three-month period, with the firm now having total liquidity of around €12.4 billion.  

A solid financial position not only means the company can overcome potential near-term challenges, it allows the business to reinvest for long-term growth. For instance, it recently announced an order for 71 long-haul aircraft. A sound balance sheet also provides scope for the firm to conduct a €1 billion share buyback programme, with around a third of it having been completed thus far. Given that its shares trade on a price/earnings (PE) ratio of just 6.3, a repurchase programme appears to be a logical use of excess cash.

The company’s first-quarter results also highlighted its improving financial performance. Revenue rose by 9.6% during the period, while operating profits increased from €68 million in the same period of the previous year to €198 million. Profits were boosted by lower fuel costs, alongside higher revenue, with the firm’s operating profit margin rising by 1.7 percentage points to 2.8%.

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With global passenger numbers forecast to rise by 6.2% in the current year, according to the International Air Transport Association (IATA), IAG’s operating environment could prove to be relatively robust. And with the total number of passenger journeys expected to rise from 3.8 billion in 2023 to 7.9 billion in 2043, according to the IATA, the company has a strong long-term growth outlook that could act as an ongoing catalyst for its sales and profitability.

Since first being discussed in this column during May 2023, IAG’s share price has risen by 110%. This is ahead of both the Travel & Leisure sector and the FTSE 350 index, which are up 17% and 15%, respectively, over the same period.

Clearly, the company’s share price could come under pressure in the short run due to ongoing economic uncertainty. But given its low valuation, improving financial position and upbeat long-term outlook, it appears to be well placed to deliver further sector and index outperformance in the coming years.

IHG

Sector peer InterContinental Hotels Group (LSE:IHG) could also deliver attractive returns over the long run. The owner of brands including Kimpton, Crowne Plaza and Holiday Inn recently released a first-quarter trading update that showed revenue per available room (RevPAR) rose by 3.3%. It was boosted by a 2.2% rise in the average daily rate charged per room, as well as a 0.6 percentage point increase in occupancy.

The company’s trading update also stated that it has completed over a third of this year’s planned share buybacks of $900 million. While its shares currently trade on a relatively high PE ratio of 24.2, the firm offers good value for money given its growth potential.

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Indeed, its pipeline of new rooms provides a potential long-term growth catalyst. It currently stands at 334,000 rooms, which is 9.4% higher than a year ago, and amounts to around a third of the company’s current global estate. And with the firm having a wide range of brands across different price points within its portfolio, as well as being exposed to a variety of geographies, it offers greater diversification than some of its sector peers.

Separately, the company’s financial position is relatively sound. Although net debt rose by 22% in its latest full year, its net interest costs were still covered over seven times by operating profits.

Since first being discussed in this column during July last year, IHG’s share price has risen by around 9%. While this is four percentage points ahead of the FTSE 350 index’s performance, it lags the Travel & Leisure sector’s 17% rise over the same period.

As per its sector peers, the company’s shares could experience heightened volatility in the short run as economic uncertainty plays out. But its sound business model, attractive growth prospects and solid strategy mean it appears to offer long-term investment potential.

Robert Stephens is a freelance contributor and not a direct employee of interactive investor.