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Will Economic Woes, Increased Supply Hit Hotel Stocks?

Zacks Equity Research

Granted, sales have been pretty solid in the U.S. and emerging markets have great growth prospects. Still, it would be prudent to take a closer look at some of the dampeners before investing in the hotel industry. Particularly, macroeconomic concerns in several emerging economies and high costs could keep hoteliers’ growth in check.

Below we discuss some of the headwinds that hotel stocks may face in the near as well as the long term:

Demand-Supply Gap Unfavorable: The recovery in the broader economy is a boon for the hotel industry as it has perked up leisure and business travel demand. Meanwhile, the supply-demand environment in the U.S. has been favorable since 2010 with growth in demand outpacing supply growth. However, of late, the gap between demand growth and supply growth has considerably narrowed.

In fact, considering the long pipeline of hotels, PricewaterhouseCoopers (“PwC”) expects the sector’s supply growth of 1.9% in 2017, thereby outpacing demand growth of 1.6%. This is expected to lead to the first occupancy decline for the U.S. lodging industry since 2009. PwC has also predicted for a positive but slow growth in average daily rate (ADR) and revenue per available room (RevPAR) in the year.

Trump’s Travel Ban Hovers Over Hoteliers: The administration’s travel restrictions through executive action are adding to an overall air of uncertainty, on the margin, about travel into the country. The President has also talked about building a wall along the U.S. southern border to curb Mexican immigrants entering the country illegally.

All these have cast a pall over future travel demand to and from the U.S. The perception of the U.S. becoming a less desirable place to visit in the eyes of the global traveler is a net negative for the industry as a whole.

Lingering Uncertainty in Certain International Markets: Despite immense growth potential, hoteliers are still apprehensive of several macroeconomic issues in international markets, like the social/political impact of ‘’Brexit’’ and decelerating growth in certain parts of Asia.

Moreover, a sluggish economy in Brazil is weighing on demand in the Latin American region and has checked overall sales. In fact, Brazil, Argentina and Ecuador witnessed a decline in hotel occupancy in 2016. The weak Latin American economy, aggravated by political turmoil thus led to softer tourism numbers in 2015 and 2016 which is likely to continue in 2017.

Meanwhile, hoteliers like Marriott International, Inc. (MAR) and Hilton Worldwide Holdings Inc. (HLT) expect pandemic virus like Zika to continue to temper growth in the Caribbean region.

In Europe, economic/political conditions are expected to be challenging after U.K.’s exit from the 28-member economic bloc. Business in Europe is as it is clouded by economic uncertainties in the Northern region and deflation in the Eurozone.

Terror attacks on key European cities like London, Paris and Brussels in recent years have also affected tourism. The attacks in Brussels last year dealt a severe blow to Europe’s tourism industry, just as it was going into the peak season with hopes of a turnaround from the canceled bookings that followed the Paris attacks in 2015. Additionally, concerns of further terror attacks and violence against foreign tourists are increasingly hurting trade in many African countries such as Kenya and Nigeria.

If this wasn’t enough, the slowing down of the Chinese economy and concerns over Japan, owing to a weaker yen and tax increases, are adding to hoteliers’ woes. Notably, China’s economic growth rate moderated in recent times with its 2015 GDP growth touching a 25-year low. The slowdown in the Chinese economy is thus hurting discretionary spending and, in turn, travel.

Meanwhile, the Middle East and Africa has seen a decline in international arrivals due to a drop in oil prices with increase in security concerns, political unrest and rising supply, adding to the woes of hoteliers.

Slowing RevPar Trends: Most of the hoteliers in the U.S. have been witnessing slowing revenue per available room (RevPAR) trends of late, because of continued muted international visitation along with new supply impact.

Moreover, the majority of leading hoteliers expect soft demand in the oil producing regions – mainly parts of Texas, Houston, Louisiana, Houston, Oklahoma City and West Virginia – to continue hurting RevPAR.

Fluctuation in Exchange Rates: Most of the major hoteliers like Marriott, Hyatt Hotels Corporation (H) and Wyndham Worldwide Corporation (WYN) generate a substantial portion of their revenues from customers outside the U.S.

As the U.S. dollar continues to show strength against various other currencies, negative currency translation is a major concern for these companies. In fact, Marriott has been witnessing fewer international guests at its U.S. hotels, given the stronger dollar. Meanwhile, Marriott and Wyndham are also bearing the brunt of Venezuelan currency devaluation.

Thus, such volatility in exchange rates would continue to hurt the results of hoteliers as it has been doing so over the past few quarters.

Operating Margins Under Pressure: Operating margins for the hoteliers are yet to reach the industry peak of 2007 in the U.S. due to a spike in costs. Hoteliers are looking to differentiate themselves and keep up with changing consumer tastes through investments in technology, quick customer service and real-time marketing. These are denting margins even further. Additionally, most hoteliers plan to gain a competitive advantage and differentiate their brands through renovation. This comes at the cost of near-term margins.

Meanwhile, as the economy improves and unemployment levels drop, hotel managers are expected to continue struggling to control their largest operating expense – labor costs. Rising salaries, wages and benefits, as well as increased staffing levels has been adding to the hoteliers’ labor costs.

Moreover, hoteliers are unable to match the rising cost of operations with increases in room rates. This is lowering their ability to achieve the levels of profit growth observed the past four to five years.

Additionally, online booking sites like Expedia Inc. (EXPE) and The Priceline Group’s (PCLN) Booking.com are limiting the pricing power of these hotels, which are contracting their margins. The higher commission rates charged on hotels are also hurting margins. Meanwhile, with lower overhead costs and less stricter regulations than hotel companies, home sharing companies like Airbnb, Inc. are also seizing share from traditional players.

Stocks to Avoid

Some of the players in the space that induce our cautious-to-bearish outlook include Belmond Ltd. (BEL), La Quinta Holdings Inc. (LQ) and Hyatt. While Belmond and La Quinta has a Zacks Rank #4 (Sell), Hyatt carries a Zacks Rank #5 (Strong Sell).

You can see the complete list of today’s Zacks #1 Rank (Strong Buy) stocks here.

To Conclude

Although various geopolitical and economic woes along with higher costs are threatening growth in the hotel industry, it remains to be seen whether an improving economy and initiatives undertaken by hoteliers can offset these negatives.

Let us see how these companies fare, brave the challenges and register profits in the coming days. In “Will 2017 Bring Growth for the US Hotel Industry?” we focused on the conditions which are expected to drive the industry forward.

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Wyndham Worldwide Corp (WYN): Free Stock Analysis Report
The Priceline Group Inc. (PCLN): Free Stock Analysis Report
Marriott International (MAR): Free Stock Analysis Report
La Quinta Holdings Inc. (LQ): Free Stock Analysis Report
Hilton Worldwide Holdings Inc. (HLT): Free Stock Analysis Report
Hyatt Hotels Corporation (H): Free Stock Analysis Report
Expedia, Inc. (EXPE): Free Stock Analysis Report
Belmond Ltd. (BEL): Free Stock Analysis Report
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