Why shares of Cruise Line Carnival, Royal Caribbean and Norwegian rallied this week

Shares of cruise companies rose this week, with Carnival Corp. (CCL 0.22%) (CUK 0.11%), Royal Caribbean Cruises (RCL 0.12%)and Norwegian Cruise Line (NCLH -0.69%) rose 12.9%, 8.3% and 14%, respectively, by 1:27 p.m. ET Thursday, according to data from S&P Global Market Intelligence.

Cruise lines have been hit hard by the COVID-19 pandemic, but have dug themselves out of their debt holes over the past two years. Fortunately, the pent-up desire for travel and experiences has led to strong and resilient cruise demand, even through high oil prices in 2022 and higher interest rates in 2022 and 2023.

With the economy remaining resilient and interest rates falling, cruise stocks received even more good news this week as a Wall Street analyst updated the sector.

Citi modernizes cruise lines

Wednesday, City Group analyst James Hardiman upgraded the entire cruise sector, while raising the company’s price targets for all three names. The analyst raised his price target for Carnival from $25 to $28, Royal Caribbean from $204 to $253 and Norwegian from $20 to $30.

Analysts have become more optimistic about each cruise line’s ability to continue profitable growth and shed more debt as time goes on.

For Carnival, Hardiman remained bullish following its recent third-quarter financial results reported on September 30. In its fiscal third quarter, Carnival’s revenue rose 14% and net income rose more than 60% to $1.7 billion. Management also raised its adjusted earnings before interest, taxes, depreciation and amortization (EBITDA) for 2024 to $6 billion, up $200 million from guidance given in June. Importantly, the company’s debt was recently upgraded by the rating agencies, a management point was quick to point out.

Hardiman remains optimistic that Carnival’s new private island in the Bahamas, called Celebration Key, should bring more profitable growth in the future. The analyst also noted that Carnival’s focus on moderate but highly profitable growth should allow it to pay down its debt over the next few years.

Image source: Getty Images.

Hardiman also had positive things to say about Royal Caribbean and Norwegian. Royal Caribbean is the least indebted of the three, and Citi expects the company to report strong growth, with capacity increasing by 6 percent and earnings falling at an even faster pace next year. Citi also believes Royal Caribbean will present a long-term financial plan and outlook in the next two quarters, which could be a catalyst for the stock.

Citi, meanwhile, saved its top-percentage increase price target for Norwegian amid a slight shift in its business strategy. Previously, Hardiman noted, Norwegian pursued a premium experience strategy, but also spent heavily to do so. Now, the analyst sees management focusing more on costs, which could lead to exaggerated profit growth. “Norwegian’s shift in strategy from quality at any cost to a more balanced yield/cost relationship gives us confidence that the company’s considerable pricing power and increased focus on costs ‘can’t help but pay off,'” he wrote, according to Reuters. .

Cruise lines seem cheap, but they need the good times to keep going

Cruise stocks, despite positive performances this year, still look cheap on a P/E basis, with Carnival, Royal Caribbean and Norwegian trading at 12, 14.6 and 12.6 times earnings respectively forward.

However, investors should understand that each company still has a substantial debt-to-EBITDA load.

CCL Financial Debt to EBITDA (TTM) data by YCharts

That means cruise stocks could catapult higher if earnings remain strong and everyone pays down their debt, helped by lower interest rates. However, should the economy take a downturn or oil prices and/or interest rates rise again, there could be significant downside.

Cruise line stocks are therefore appropriate for the higher-risk, high-reward portion of your portfolio. Fortunately for existing shareholders, Citi’s upgrade this week was a positive indicator that the growth scenario looks very much intact at the moment.