Markos Kaminis'  Instablog

Remember a few weeks back when Burlington Northern (NYSE: BNI) and Union Pacific (NYSE: UNP) sank the transports and the Dow on warnings that the economy was not steaming ahead after all? BNI's stock derailed that day, but Warren Buffet, who owned a major stake in the company, demonstrated why he is the world's greatest investor of all-time. While the world was selling BNI like it was the plague, America's Grandpa was putting together a plan to buy the rest of the company's outstanding shares.

Buffet Buys Burlington Northern OutrightRemember that old adage, "Buy into fear and sell into greed?" As well-known as it is, it remains mostly misunderstood. It seems it goes against human nature to walk toward danger, but the answer to the riddle is found deeper within that philosophy. It is precisely because what seems dangerous is not always really so bad that opportunity exists. Our savings, however, is so important to our security-centric mindset that we cannot bear the risk of losing, and so we lose out.

Buffet's big trick is that he thinks differently. He considers first the long-term you see, and until they invent the Star Trek transporter, there will be a need for traditional transportation methods. Buffet, acknowledging this, thought here's a wonderful opportunity to take a greater stake in a key transportation company that supplies a fantastic economy.

Berkshire Hathaway Inc. (NYSE: BRK-A, BRK-B), Buffet's investment vehicle and conglomerate, agreed to acquire Burlington Northern Sante Fe (NYSE: BNI) today. Berkshire is acquiring the 77.4% of the company it did not already own. The deal, valued at $44 billion when including the $10 billion in debt obligations that Berkshire will take on, prices Burlington Northern at $100 a share. The acquisition price represents a 31.5% premium to the prior day closing price of $76.07. That's a nice short-term windfall for BNI investors. And isn't it just so Buffet like to set the acquisition price at $100 even!?! Buffet called the deal "an all-in wager on the economic future of the United States." You gotta love this guy...

Buy Railroads, Sell Truckers

Buffet likes railroads for the long-term because of what's going on in energy. As demand for oil and its distillates likely fires in the years ahead, truckers like J.B. Hunt (Nasdaq: JBHT), Landstar System (Nasdaq: LSTR) and Con-way (NYSE: CNW) face an economic impact four times more expensive than the railroads, according to Buffet. If this is truly the case, you could expect market share gains to ensue for the railroads, and at the expense of the truckers. Market share gains are often drivers of P/E expansion as well, and they certainly are drivers of earnings growth. Therefore, railroads should produce better than recent earnings growth and share price appreciation. Add to that the whammy of prospective economic recovery, and you have something worth owning. As a result, you might find strategic investors and profiteers alike seeking to buy railroads now. Thus, the shares of all the segment's stocks should rise.

This deal places the P/E of Burlington Northern at 18.2X BNI's estimated 2010 earnings of $5.51. Union Pacific's (NYSE: UNP) relative P/E ratio is 13.1, according to Yahoo Finance and its data providers. CSX (NYSE: CSX), another major rail player, sees a P/E of 13.1 as well. BNI's P/E was 13.8 before this deal was effected, and the slight premium probably had a lot to do with Buffet's growing interest, in every respect of the phrase.

While we do not offer investment advice here, another investment idea might be to play the market share trend by buying the railroads and selling the truckers, though economic recovery benefits all players, including the truckers. However, you negate that factor by evenly matching the two sides of the deal, or you might overweight the rails if you believe in the economic driver.

Now keep in mind that Buffet's reasoning ignores the possibility of changes in technology. While expecting the transporter beam to become reality any time soon might be far-fetched, it is possible truckers might find another way to fuel the big rigs and regain competitiveness. However, that does not seem to be soon coming either. The power train of a big truck seems a big stretch to be run by electric, natural gas, hydrogen fuel cells or any other prospective technology anytime soon. However, if that does become reality, you can sure bet Buffet will be buying truckers, or whichever segment adopts new cost effective technology.

Disclosure: No Positions