At The Motley Fool, we poke plenty of fun at Wall Street analysts and their endless cycle of upgrades, downgrades, and "initiating coverage at neutral." Today, we'll show you whether those bigwigs actually know what they're talking about. To help, we've enlisted Motley Fool CAPS to track the long-term performance of Wall Street's best and worst.
When Warren Buffett announced in 2009 that he was aiming his "elephant gun" at the railroad industry, investors hailed the Oracle of Omaha for his insight. With oil prices topping $100 a barrel every couple of years, the writing was on the wall. Oil-quaffing 16-wheel tractor trailers weren't nearly as fuel-efficient as cutting-edge (circa 19th-century) railroad technology. When you added the monopoly advantages of railroad tracks to the fuel-cost advantages of locomotives, Buffett's decision to add Burlington Northern to the Berkshire Hathaway (NYS: BRK.A) (NYS: BRK.B) empire looked like a can't-lose idea. But guess what?
It may have just lost.
Bernstein versus Buffett?
Yesterday, analysts at Bernstein announced they were shaving nearly 20% off their price target for railroad company CSX (NYS: CSX) and downgrading the stock to "underperform" (aka "sell").
The reason: Decade-low natural gas prices have sparked a shift in fuel usage away from coal and toward natural gas. This is key to the railroad industry because trains transport coal, whereas gas tends to travel via pipeline.
According to StreetInsider.com, Bernstein warns that the volume of coal being shipped by rail will fall "sharply" this year, only recovering in 2013 -- and only partially even then. CSX is expected to see revenues from coal transport drop as much as 19% this year. And while coal is just one of many commodities CSX moves, this shortfall could shave as much as 8% off its earnings for the year. Norfolk Southern (NYS: NSC) is looking at a similar-sized drop (14% to 16%), while Union Pacific (NYS: UNP) may sidestep much of the carnage, suffering only a mid-single-digit decline in revenues.
Where there's smoke, there's fire (not generated from burning coal)
As if all this weren't bad enough news for the industry, yesterday morning Ceridian-UCLA published its monthly "Pulse of Commerce Index," estimating growth rates in the transport industry generally, based on consumption of diesel fuel by truckers.
According to Ceridian-UCLA, transport shipments did in fact grow slightly in February, but "not enough to offset the 1.7% decline from January." Absent superb, near-historic growth in March, the market researcher predicts that we will see transport volumes in trucking decline for the first quarter of 2012. And when you consider that coal is a commodity not ordinarily shipped by tractor trailer, this suggests the railroad industry could see volume declines in goods other than coal as well.
What's it mean to you?
Berkshire may now be heavily invested in train tracks, but Burlington Northern is still just one subsidiary among dozens, so the impact on the overall company should be negligible. But turning to the three pure-play railroad stocks named above, the news suggests that Union Pacific might be the stock most vulnerable to a downturn. Priced at 16.4 times earnings, and with analysts expecting a near-industry-high growth rate of 16.3% annualized over the next five years, Union Pacific was already only fairly priced. A slight decline in transport volume generally, plus a more significant drop in coal volumes, might be enough to tip this stock from "fairly valued" to "overpriced."
As for CSX, the subject of Bernstein's downgrade, I see more margin of safety in this one. Priced at 12.4 times earnings today, and perhaps 13.5 times earnings if Bernstein's predicted 8% decline in profits does in fact happen, the stock still looks reasonably priced based on long-term expectations of 15.5% annual profits growth. (That's assuming you're willing and able to wait out a one-year slump in profits, in the hope that business gets back to usual in future years.)
If not, an even safer alternative would be Norfolk Southern. Priced at the low end of stocks in this industry (12.3 times earnings), Norfolk Southern boasts the highest growth rate of the stocks named (16.5%), and is expected to take a slightly smaller hit than CSX from depressed coal shipments. Of the three, it looks to me like Norfolk Southern is the safest place to be.
But are there even better places to put your money to work? As one famous former governor might say: "You betcha!" And we tell you all about them in the Fool's new (and free!) report: "The Stocks Only the Smartest Investors Are Buying."
At the time thisarticle was published Fool contributorRich Smithdoes not own (or short) shares of any company named above.You can find him on CAPS, publicly pontificating under the handleTMFDitty, where he's currently ranked No. 390 out of more than 180,000 members. The Motley Foolhas adisclosure policy.The Motley Fool owns shares of Berkshire Hathaway.Motley Fool newsletter serviceshave recommended buying shares of Berkshire Hathaway. We Fools may not all hold the same opinions, but we all believe thatconsidering a diverse range of insightsmakes us better investors.
Copyright © 1995 - 2012 The Motley Fool, LLC. All rights reserved. The Motley Fool has a disclosure policy.