SINGAPORE- Singapore Airlines (SIA) , the world's second largest carrier by market value, has been battered by falling passenger and cargo demand but some analysts are starting to see a recovery. SIA, which has a market value of $10.5 billion, posted a 92 percent drop in its quarterly profit ending March after being burned by fuel hedging losses, and passenger and cargo demand has stayed weak in the second quarter.

Its shares have rebounded by 16 percent this year, but are underperforming a Singapore market that has gained about a third so far in 2009 or some of its competitors such as Cathay Pacific , which has risen 28 percent this year.

TIME TO BUY

J.P.Morgan analyst Corrine Png, who upgraded the stock to overweight from neutral and lifted its target price by 9.4 percent to S$14 his month, said most airline share prices, including Singapore Airlines, are in the process of pricing in a recovery over the next 12 months.

"We are in the worst of the cycle right now with traffic collapsing and then potentially booking losses for the next one or two quarters. So probably this is the best time to pick up the stock," Png told Reuters.

"When the traffic recovers, because of the high operating leverage you always see a very nice upturn in the share price which gives you a very large absolute and relative outperformance," she added.

 Recent monthly operating data from the airline also shows that the drop in passenger and cargo demand might reach a trough soon, said Robert Bruce, analyst at CLSA.

"The industry is reducing capacity and signs are that the fall in cargo demand is bottoming and premium class is stabilising on a month on month basis, so it could be reaching a trough shortly," Bruce said, adding that this trough could come as early as next quarter.

STRUCTURAL PROBLEMS

But not everyone is convinced of a recovery. Sharp fluctuations in oil prices and the expansion of budget airlines are likely to keep hurting full fare carriers, especially premium carriers like Singapore Airlines.

"As an airline, SIA has done a great job for its shareholders. But the economics of the airline industry are simply not attractive," Tan Teng Boo, managing director of fund iCapital, told Reuters.

"For example, when demand is strong, oil prices go up and play havoc with costs and margins. Oil prices go down when demand is weak and then the airline has to deal with low traffic. So it is a case of heads you win, tails I lose."

Singapore Airlines reported a loss of $370 million on oil hedging in the quarter ending March, after locking in fuel supply last year to protect itself against an oil rally to record highs, leaving it overpaying for fuel when oil prices slid this year.

The world's airlines lost more than $3 billion in the first quarter and the International Air Transport Association (IATA) sees full-year losses of $9 billion.

UBS analyst Damien Horth said Singapore Airlines' fleet configuration might be a "strategic mistake", which could lead it to attempt to sustain a yield premium, a situation that he thinks is not possible in the current economic environment.

Last year the carrier introduced all business class flights between Singapore and Los Angeles and New York, with five jets configured in such a way that only enables them to carry 100 passengers, instead of more than 300 normally.

iCapital's Tan said the growing presence of budget airlines is also worsening the economics of the business.

Malaysian low-cost airline AirAsia is on an aggressive expansion drive despite the downturn, now flying long-haul to the UK and ordering over $2 billion of new planes from Airbus last month.

SIA trades at 24.6 times forecast earnings according to Reuters Estimates, while Cathay trades at 30 times and Air Asia at 5.9 times.