Midyear Stock Review: Investors Concerned About Durability of Recovery

This story appears in the June 28 print edition of Transport Topics.

After improving along with most other equities during the last nine months of 2009, trucking stocks this year have done little more than tread water, with a good run from early February through late April sandwiched between two brief pull-backs by investors.

Fleet operators said they are generally seeing improvements in tonnage and freight rates as they face fewer competitors after a wave of motor carrier closings. But investors are trying to figure out if this is the beginning of a long, durable recovery or a short burst of good news.

“There’s a lot of uncertainty now,” said Stifel, Nicolaus & Co. analyst David Ross. “Freight has rebounded from the bottom, but taxes are going to be going up, state budgets are in trouble and there will be more layoffs after the temporary census jobs are done.

“We’ve pulled forward demand for automobiles and housing [with tax incentives]. So what’s left? For the next 12 to 18 months, I think, many people will be cautious. The markets are kind of spooked,” Ross said.

The Dow Jones Transportation average has gone up faster than the market as a whole, as measured by the Standard & Poor’s 500 Index. However, the transportation increase is not because of trucking stocks, which underperformed the S&P 500 for the 52 weeks ended June 11.

The Standard & Poor’s trucking index posted a more modest gain. From June 12, 2009, through June 11 this year, the transportation average gained 28.5%, the S&P 500 rose by 15.4% and the trucking index increased 11%.

Railroad stocks provided most of the power for the transportation ­average. Burlington Northern Santa Fe Corp. has been a subsidiary of Berkshire Hathaway Inc. since February, but that still leaves six ­publicly-traded U.S. and Canadian Class I freight rails.

From June 10, 2009, through June 9 of this year, the poorest performance by one of them was Union Pacific Corp., whose share price rose 29.9% to $69.38. Canadian National, Canadian Pacific and Norfolk Southern Corp. all topped 30% appreciation in share price, while CSX got to 40.9% and Kansas City Southern shares more than doubled in price over the same time, rising to $36.88 from $16.09.

The recovery in share prices for trucking companies was tepid in comparison. Four of six less-than-truckload carriers reported declines during the June-to-June test period, with Old Dominion Freight Line, 9% growth, and Vitran Corp., 37.6% increase, the two exceptions.

Truckload stocks were more likely to report an increase in price, as nine improved over the test period and five declined.

P.A.M. Transportation Services and Quality Distribution had the most dramatic returns, with each gaining about 170%. Among the five that lost ground, all were dips of less than 10%.

Three of the industry’s largest corporations also saw their share prices rise. Parcel courier FedEx Corp. had a 35.5% increase in its stock price, while its main competitor, UPS Inc., had a 13.5% increase. Truck leasing company Ryder System Inc. had a 37.3% increase.

A look at tonnage by mode helps to explain some of the difference. In a note to clients earlier this month, investment firm Wolfe Trahan & Co. offered guidance about the differences between truck and rail tonnage.

Trucking ended a 14-month streak of year-over-year declines in tonnage in November, and then enjoyed six straight months of growth through May, but with each month limited to less than 10%. Railroads had a longer decline — 21 months that also ended in November — but the acceleration since then has been more noteworthy: 5.2% in February, 12.3% in March, 17.7% in April and 20.5% in May, according to the Wolfe Trahan report.

Although there has been growth over extremely low year-ago levels, the report also said shipping has not been impressive on an

absolute basis. Comparing current shipping with what happened 24 months ago, rather than just 12, freight transportation is still in the doldrums.

Truck tonnage was down 3.5% through April and Class I rail volumes were down 8.2% through May, according to the Wolfe Trahan research.

Tonnage is half of the equation for transportation earnings; pricing is the other half.

“Stocks have been trading on expectations related to volumes, and volumes have been flattening sequentially,” said analyst Art Hatfield of Morgan Keegan & Co.

“But that’s the wrong way to think about it. Beyond volumes — which are still very important — this is shaping up to be a very strong pricing environment that could last for years,” Hatfield said.

Truckload capacity will not grow much, Hatfield predicted, because of tight lending and a driver shortage that will probably return soon. More bankruptcies by carriers on the financial edge could drive down capacity further in the short term, he said.

“Truckload rates really went down. There’s a lot of upside to them,” Hatfield said.

There have been numerous reports of improved spot-market pricing for truckload carriers, although long-term contract pricing does not appear to have made that leap yet. Stifel’s Ross said truckload stocks have a better chance of improving quickly than do LTL stocks because of capacity issues.

Ross said it will be important to follow the effects of the federal government’s new Comprehensive Safety Analysis 2010 inspection process. Many in trucking worry this could eliminate drivers when they will be sorely needed.

“Truckload stocks will move on capacity. We haven’t seen a huge growth in demand, but this should happen more with pricing than with volumes because of CSA 2010 and other capacity issues,” Ross said.

The LTL sector of trucking did not lose as many companies as did truckload. Therefore, LTLs have not reported as many similar stories of improvements in pricing.

“LTL industry capacity utilization is improving,” analyst Jon Langenfeld told clients of Robert W. Baird & Co. “That said, excess capacity still exists and presents a headwind to pricing improvement.”