American Airline's Heavy Baggage

Spiraling fuel costs have forced American Airlines to cut flights and charge for baggage, leaving investors waiting for others to do the same.

AMR (nyse: AMR - news - people ) , the parent of American Airlines, announced it was making an 11.0% to 12.0% domestic capacity cut during the fourth quarter as part of a broader effort too reduce its schedule and save money. Wednesday's news marks the largest reduction by American Airlines since it made drastic cuts after the terrorist attacks of Sept. 11, 2001, only this time it comes as fuel prices are surging to record heights. AMR also said it would start charging passengers a $15 fee for the first checked bag, the first major carrier to do so..

The announced sent AMR's stock price tumbling 19.8%, or $1.62, to $7.58, in mid-day trading. Over the past year though AMR's share price has lost 75.0% in value.

AMR's problems are emblematic of the entire industry, and investors and consumers should expect similar announcements by other airlines. "You should absolutely expect all other network airlines to announce similar types of reductions beginning after Labor Day, and you should start hearing the announcements soon," said Michael Derchin, an analyst at FTN Midwest Securities. Delta Air Lines (nyse: DAL - news - people ) has already said it will cut capacity 10.0%.

The market got the message. By morning trading Delta fell 10.1%, or 70 cents, to $6.20, United Air Lines parent UAL (nasdaq: UAUA - news - people ) dropped 15.1%, or $1.74, to $9.82, and Northwest Airlines (nyse: NWA - news - people ) sank 9.1%, or 70 cents, to $7.02. Wednesday's announcement from AMR appropriately came on the same day crude prices surpassed $130 for a new record. (See: "Stocks Limp, Oil Climbs")

Derchin said the capacity cuts would largely be within the United States because the carriers' international operations are profitable despite high fuel prices.

Assuming that oil prices will stay high, Derchin said the only real option for airlines to generate adequate returns is raising through fares by 20.0% and reducing domestic capacity about 10.0%. Things are so bad, though, that Derchin doesn't have any short candidates because the stocks are so low to being with. "They're price with the assumption that there will be massive bankruptcies," Derchin said. "The airlines are taking very strong actions to try to avoid that from happen. Although the market is assuming the worst case, that may not occur in this cycle."

The bankruptcy threat is real, through. In late-April, Eos Airlines, an all business class transatlantic airline, cited the "challenging" economic and credit environment when it filed for Chapter 11. In December, MAXJet, a rival business class transatlantic airline, filed for bankruptcy protection and ceased operations on its routes between London and New York, Las Vegas and Los Angeles. In early-April both Aloha Airlines and Champion Air were also pushed out by fuel costs. (See: "Aloha To Two Airlines")

Ray Neidl of Calyon Securities said airline stocks have reached an area where people are becoming leery about investing their money.

One stock Derchin is looking long on is Southwest Airlines (nyse: LUV - news - people ). He is impressed with their effort to hedge their fuel costs, and said "they're also a domestic airline and will benefit from the domestic cutbacks made by others.(forbes)