3 Railroad Stocks to Watch From a Challenging Industry
The Zacks Transportation - Rail industry is suffering from headwinds raging inflation, higher interest rates, high fuel price and supply-chain disruptions. Despite the challenges surrounding the industry, Union Pacific Corporation UNP, Canadian Pacific Railway Limited CP and CSX Corporation CSX appear better-placed to tide over the challenges.
About the Industry
The Zacks Transportation - Rail industry consists of railroad operators transporting freight (such as agricultural products, industrial products, coal, intermodal, automotive, consumer products, metals and minerals), primarily across North America. These companies focus on providing logistics and supply-chain expertise services. While freight constitutes a significant chunk of revenues, some of these companies also derive a small portion of their top line from other rail-related services, including third-party railcar and locomotive repairs, routine land sales and container sales, among others. A few companies offer service to multiple production and distribution facilities. Besides owning locomotives, some of these companies have equipment of leased locomotives, railcars etc.
Factors Deciding the Industry's Outlook
Dividend Hikes Signal Financial Bliss: With the resumption of economic activities, many players, including some railroad companies are reactivating their shareholder-friendly measures like paying out dividends, which underline their solid financial footing and confidence in the business. In 2023, CSX upped its dividend by 10% to 11 cents per share.
High Oil Price Hurts Bottom Line: Even though oil price has declined from its multi-year highs due to recession fears, it remains high. Notably, oil price was up 6.7% in the October-December period. Fuel expenses represent a key input cost for any transportation player. Naturally, operating expenses are on the way up, given the rise in fuel cost.
Economic Uncertainty: The hotter-than-expected inflation data, with the consumer price index (CPI) rising more than anticipated in January, has highlighted the fact that we are far from being out of the woods and that inflation remains a formidable foe. CPI was up 0.5% in the first month of the year, following a 0.1% rise in December and compared to expectations of a 0.4% rise. Risks associated with an economic slowdown, geopolitical tensions and supply-chain woes dampen the prospects of stocks belonging to this industrial cohort. Due to the uncertainty, the Cass Freight Index declined 3.2% on a month-on-month basis in January. In fact, the index has declined month on month for five consecutive months. The slowdown in freight demand does not bode well for railroad operators.
Zacks Industry Rank Signals Glum Prospects
The Zacks Railroad industry, housed within the broader Zacks Transportation sector, currently carries a Zacks Industry Rank #183. This rank places it in the bottom 27% of more than 250 Zacks industries.
The industry’s position in the bottom 50% of the Zacks-ranked industries is a result of a negative earnings outlook for the constituent companies in aggregate. Looking at the aggregate earnings estimate revisions, it appears that analysts are pessimistic about this group’s earnings growth potential. The industry’s earnings estimates for 2023 have moved down 8.1% since February 2022.
Despite the gloomy outlook, there are a couple of stocks worth watching in the industry. But before we present them, it is worth looking at the industry’s shareholder returns and current valuation first.
Industry Lags S&P 500 & Sector
Over the past year, the Zacks Transportation - Rail industry has declined 9.8% compared with the S&P 500 composite’s fall of 6.9% and the broader sector’s decline of 8%.
One-Year Price Performance
Industry's Current Valuation
Based on the trailing 12-month price-to-book (P/B), a commonly used multiple for valuing railroad stocks, the industry is currently trading at 6.83X compared with the S&P 500’s 4.93X. It is also above the sector’s P/B ratio of 4.44X.
Over the past five years, the industry has traded as high as 10.86X, as low as 5.69X and at the median of 8.08X.
Price-to-Book Ratio
3 Stocks to Keep a Tab on
All three stocks mentioned below carry a Zacks Rank #3 (Hold). You can see the complete list of today’s Zacks #1 Rank (Strong Buy) stocks here.
Union Pacific: Based in Omaha, NE, Union Pacific provides rail transportation services across the United States. Union Pacific's efforts to reward its shareholders even in the current uncertain scenario please us. In 2022, UNP bought back shares worth $6,282 million. The railroad operator paid dividends worth $3,159 million in 2022.
UNP's strong free cash flow generating ability supports its shareholder-friendly activities. The uptick in overall volumes (up 2% year over year in 2002) is an added positive. Union Pacific has an encouraging track record with respect to earnings surprise, having surpassed the Zacks Consensus Estimate in three of the past four quarters (missing the mark in the other one). The average beat is 1.51%.
Price and Consensus: UNP
Canadian Pacific: The company is being well-served by the uptick in revenues at key sub-groups like Grain, Potash, Forest products, Metals, minerals and consumer products, Automotive and Intermodal. We are encouraged by the Canadian Pacific’s decision to pay dividends even in the current uncertain scenario.
Canadian Pacific has an encouraging track record with respect to earnings surprise, having surpassed the Zacks Consensus Estimate in three of the past four quarters (missing the mark in the other one).
Price and Consensus: CP
CSX: Based in Jacksonville, FL, CSX offers rail-based freight transportation services like traditional rail service, transport of intermodal containers and trailers apart from rail-to-truck transfers.
CSX is trying to drive growth in this challenging environment by reducing operating expenses. Efforts to reward its shareholders also bode well. CSX has a stellar track record with respect to earnings surprise, having surpassed the Zacks Consensus Estimate in each of the past four quarters, by an average of 4.85%.
Price and Consensus: CSX
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