Set Sail With These Undervalued Cruise Lines

Jaime Katz: We continue to believe that long-term supply side concerns surrounding new ship deployments in the cruise industry remain overblown. Rather, we believe demand-side growth should more than offset supply increases ahead, thanks to ongoing efforts to tap into new cruisers--which tend to become repeat cruisers. Through entry into new markets, like luxury--which Royal has pursued with its Silversea partnership--or millennials--with its refurbishment of the Mariner of the Seas--Royal has sought to tap into new demographic segments that can become lifetime loyalists to the brand.

We remain impressed that the major cruise operators continue to differentiate their operations by segmenting offerings to cater to specific consumer cohorts rather than a single total addressable global market, protecting their individual brand equity. We think increased target market segmentation and geographic diversification should alleviate concerns over the supply of cruise capacity set to arrive in the next five years, ensuring that new ships don't merely cater to the same existing customers.

Additionally, over the near term, profitability across the cruise companies should remain robust despite the headwinds these companies face from last year's extreme hurricane season, alongside rising fuel and currency costs. Most recently, Royal Caribbean maintained its full year earnings outlook despite $0.35 in fuel and foreign exchange headwinds. Furthermore, the firm reassured investors that the demand environment remains healthy, and 2019 is currently tracking at record rates and volumes.

While all three of the cruise companies are trading in 4-star territory, Norwegian remains the most undervalued, trading at a more than 25% discount to our $68 fair value, providing the widest margin of safety for investors looking for exposure to the cruising cash flow.