A rally in shares of Asian airlines may just be starting as fuel costs decline and travel booms in China and India, home to a third of the world's population.

"The market will start looking at these stocks," said Yoji Takeda, who helps manage US$600 million (US$1 = RM3.68) for RBC Investment (Asia) Ltd in Hong Kong. "Oil at current or even lower levels will benefit airlines, while the region's good economic growth means passenger numbers are growing strongly."

Air China Ltd and Korean Air Lines Co led the Bloomberg Asia-Pacific Airlines Index to a 7.8 per cent advance last month, the steepest gain since February 2004, while the Morgan Stanley Capital International Asia-Pacific Index fell 0.5 per cent.

The industry gauge, tracking nine of the region's biggest carriers, added 0.2 per cent last week for its fifth straight weekly gain.

Crude oil, used to make jet fuel, dropped in September by the most in 21 months. Asian airlines may benefit more from the decline than European and US counterparts because they hedge less of their fuel needs, according to data from the airlines.

The region's airlines are also benefiting from increased traffic. China's carriers had 18 per cent more passengers during the first half, while India's airports handled 37 per cent more people in the five months to May.

Airline stocks failed to keep pace with the MSCI index's gains in each of the past three years as jet-fuel costs climbed, trim- ming earnings.

This year, the Bloomberg Asian airline index has increased 2.5 per cent, compared with a 4.7 per cent gain in the MSCI index.

The carriers have also lagged behind their European peers, as the Bloomberg Europe Airlines Index has jumped 29 per cent. A gauge of US airlines shows an addition of 2.4 per cent.

Earnings are trailing Europe's as well, a reversal from 2005. Asian airlines may report net income of US$1.7 billion this year, down from US$2.1 billion last year, according to an August 31 forecast by the International Air Transport Association. Profit at European carriers may rise to US$1.8 billion from US$1.6 billion.

The association expects another drop in Asian earnings in 2007, to US$1.2 billion, based on oil costing US$68 a barrel.

As Asian carriers have trailed, their shares have become cheaper. Their Bloomberg index was valued at 21 times earnings at the end of September, below a February 2004 peak of 38 times.

"Asian airlines' stocks have underperformed substantially over the past few years because of factors like oil," said Teo Chon Kiat, who manages US$1.4 billion of Asian stocks at DBS Asset Management Ltd in Singapore. Valuations "are reasonable". Teo owns shares of Singapore Airlines Ltd, up 18 per cent this year.

Crude fell 10 per cent in September, the biggest decline since a 12 per cent loss in December 2004, as US inventories climbed and progress in talks over Iran's nuclear programme eased concern that Middle East supplies will be disrupted.

Jet kerosene traded in Singapore has tumbled 17 per cent since rising to a record US$93 a barrel on August 8, according to data compiled by Bloomberg.

Data from airlines shows Deutsche Lufthansa AG, British Airways Plc, Ryanair Holdings Plc and Air France-KLM Group, the four biggest airlines in Europe by value, hedged 70 per cent or more of their fuel requirements at least for the third quarter.

Southwest Airlines, the most profitable US carrier, locked in prices for more than 73 per cent of this year's supplies.

Neither Singapore Air, the world's second-largest carrier by market value, nor Hong Kong's Cathay Pacific Airways Ltd, the second most profitable in Asia, have hedged to that extent. They aren't alone.

Air China, China's biggest international carrier, said last month that it hedged 40 per cent of fuel needs in the first eight months of 2006. Korean Air, South Korea's largest airline, said in August it covered about 20 per cent for the second quarter.

"Those that aren't hedged in a falling oil environment definitely stand to benefit,'" said DBS Asset's Teo. Japan's All Nippon Airways Co and Australia's Qantas Airways Ltd hedged as much as Europe's biggest carriers.

Air China's shares surged 21 per cent in September, taking this year's advance to 36 per cent. Korean Air rose 15 per cent last month, leading to an 8.3 per cent gain for the year.

Expansion in Asia's economies is helping to raise incomes and spur a recovery in tourism, damaged by terrorist attacks in the US in 2001 and in Bali, Indonesia, in 2002 and 2005.

Asia excluding Japan will probably achieve 8.3 per cent growth this year, surpassing the 3.4 per cent for the US and 2.4 per cent for the 12 countries sharing the euro, according to International Monetary Fund estimates published September 14.

Travel demand may grow at an annual rate of 8.7 per cent in China and 8 per cent in India during the next decade, the fastest growth after Montenegro, the London-based World Travel & Tourism Council said in March. The number of passengers in China, the second-biggest air-travel market after the US, may rise 17 per cent this year, its aviation regulator said on September 12. Air China carried 3.12 million passengers in August, 14 per cent above a year ago.

Airlines are also using more of their cargo space. Singapore Air filled 68.5 per cent of its passenger and cargo capacity in August, up from 67.3 per cent a year earlier and the 12th straight monthly increase.

Still, rising competition may hold down earnings. At least 17 budget carriers have set up in Asia since 2001, including Malaysia's AirAsia Bhd and India's Deccan Aviation Ltd.

AirAsia, South-East Asia's biggest discount carrier, on August 29 said fourth-quarter profit climbed to RM39.1 million on rising ticket sales and revenue from fuel surcharges. The shares are down 3.8 per cent this year.

Pessimism has already taken its toll on the stocks and cheaper fuel means they are set to keep rallying, according to Nicholas Yeo, who helps manage US$15 billion at Aberdeen Asset Management in Singapore.

"The key for airline stocks is the oil price," said Yeo, who owns Singapore Air shares. "With oil retreating, investor interest will be rekindled."