Transports Week In Review - Negative Volatility Returns, Despite Strong Economic Growth

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Includes: AAWW, ALK, ARCB, ARII, ATSG, BRK.B, CAI, CGI, CHRW, CVTI, ECHO, EWC, EWW, EXPD, FCNTX, FWRD, GBX, GDP, HUBG, LTL, MATX, SAIA, SNDR, SPY, STB, TRN, UPS, VFINX, VTI, WAB, WERN, XTN
by: James Sands

Summary

The XTN transports index is now up 2.3 percent whereas the SPY is up 10.5 percent.

Second-quarter GDP growth came in at a solid 2.6 percent.

Despite the positive economic numbers, transports witnessed continued volatility to the downside.

The narrative for economic expansion in 2017 driven by transports remains intact.

Source: Google Images

As we closed the week on July 28th, transports witnessed its second consecutive decline, whereas broader markets were flat. The decline was largely attributed to volatility and profit-taking, rather than fundamentals.

The initial real gross domestic product [GDP] results for the second quarter came in at 2.6 percent growth year-over-year (YoY). This performance was highly positive for transports as 2017 witnessed solid economic acceleration for the first half of the year. If further acceleration is able to continue, the U.S. economy may still be able to witness growth approaching 2.5 percent for the year.

I manage the Lean Long-Term Growth Portfolio (LLGP). To date, performance stood at 10.6 percent, as highlighted in green. Transports have weakened over the past couple of weeks. The anomaly remains the NASDAQ Transportation (^TRAN) index, now up 11.2 percent. Both the NASDAQ (^IXIC) and Fidelity Contrafund (FCNTX) remain strong, up 18.4 and 20.6 percent.

The Dow Jones (DJT), SPDR S&P 500 ETF (SPY), Vanguard 500 Index (VFINX) and Vanguard Total Stock Market ETF (VTI) were all up 10 to 10.5 percent. The majority of reporting companies thus far have been solid; however, volatility has returned for those missing estimates, and/or having less robust short-term forecasts.

YTD 2017

For the 29th week of 2017, the spread between the SPY and the S&P Transportation ETF (XTN) increased with the SPY up by 8.2 percentage points. The SPY improved by 10-basis points (bps) to 10.4 percent, while the S&P Transportation ETF declined by 210 bps to 2.3 percent for 2017.

After hitting a yearly high, transports witnessed two consecutive weekly declines, despite stable earnings performance. This past week’s technology sell-off on Thursday was a highlight, but transports appeared to decline more volatility. Short-term traders may continue to maximize profit opportunities throughout the summer.

Rail Operators

Rail operator performance was negative for the second consecutive week. Four of the seven Class Is have now reported earnings, with all beating handily. All reports for Class Is have been provided with the exception being BNSF (NYSE:BRK.A)(BRK.B). Results were very good, but the market has sold off a little as the second half of next year is expected to witness slower and/or negative growth for key commodities.

Week twenty-nine of 2017 witnessed increased results for most Class Is based on total traffic carried. However, the rate of improvement from the previous year declined once again; for some Class Is, overall performance declined. The most recent monthly Class I rail traffic report can be found here.

Railcar Manufacturers & Lessors

Railcar manufacturers and lessors were mostly down for the week, with exceptions being The Greenbrier Companies (GBX) and American Railcar Industries (ARII). Despite Trinity Industries (TRN) beat, railcar manufacturers were impacted by broader transports weakness. Westinghouse Air Brake Technologies (WAB) was one of the latest companies to miss estimates and see a corresponding stock price plunge.

Sentiment for railcar manufacturers continues to be mixed. Unlike the rail industry, a clear bottom has yet to be reached. Rail operators have continued to idle equipment and reduce capital expenditure budgets in 2017. Once a bottom becomes clear, stock prices should react positively.

Truckload Carriers

Truckload carriers were mostly down during the week, with exceptions being Celadon Group (CGI), Covenant Transportation (CVTI), Schneider National (SNDR) and Werner Enterprises (WERN). Some smaller peers have rallied lately due to improving market dynamics. Recent weakness looks to be sector- and market-driven rather than an indication of industry shifts.

With volatility increasing during the summer, smaller plays have outperformed. For long-term investors holding their positions, larger peers have been the stronger performers.

Less-Than-Truckload Carriers

Less-than-truckload [LTL] carriers were up for the week, with the exception being Forward Air (FWRD). ArcBest Corporation (ARCB) and Saia (SAIA) were both catalysts for the week, as each company beat estimates. Similar to smaller truckload peers, higher risk LTL plays have been the stronger performers in the short term.

Seasonal rates since late-March have remained up well near the high single digits. Seasonal performance during this period has continued to outperform dry van results.

Air Freight, Package & Delivery

Air freight, package and delivery companies were split with air cargo lessors up, while carriers were down. The strongest performers since late-June have been Atlas Air Worldwide (AAWW) and Air Transport Services Group (ATSG). United Parcel Service (UPS) provided solid earnings results, but the company fell, as did its peers.

This upcoming week, Atlas Air will provide its results. With the recent run-up, a miss could lead to a strong sell-off. There has been a theme of late where the initial reaction is to sell, even when earnings have been stable or marginally better. This is mostly due to profit-taking by short-term investors.

Contract Logistics, Forwarding & Brokerage

Contract logistics companies were all down during the week. Two earnings reports were out last week including Echo Global Logistics (ECHO) and Hub Group (HUBG). Both results missed estimates, leading to new all-time lows for each respective company in 2017. Larger peers were not as impacted, but still declined.

All eyes will be on Expeditors International (EXPD) this week as the company’s market segments may lead to better margin performance than other peers. I view Hub Group’s decline as a buying opportunity with the next 12-month period offering strong upside potential.

Container Shipping Lines, Charter Owners & Container Lessors

For the container shipping industry, weekly performance for companies with exposure was mostly lower, with the exception being container lessors. Matson (MATX) was volatile and is another company within transports that may offer investors potential upside over the next year.

Container lessors have not only been the top performers within the container shipping industry, but pretty much within all of transports. Just when you thought it couldn’t get any better, it did. CAI International (CAI) has left every other company within transports in the dust.

Airlines

Airline stock performance for the week was negative, as the past few weeks have been brutal. Quarter two results were mostly positive, but the focus has shifted to increasing labor costs and supply-demand expectations. While some airlines have reported positive demand indicators, there could be concerns regarding increasing energy costs in the near term.

My focus has been on building a position in Alaska Air Group (ALK). Overall, the long-term potential remains stable, but we need to pay attention to rising labor costs, amidst the competitive environment for all airlines.

Demand Trends

Key demand-based indicators that are monitored include Class I rail traffic, trucking industry tonnage, shipments, and loads, air cargo tonnage, container shipping line twenty-foot equivalent units, TEUs, North America seaport TEUs, shipping lane port calls, North America cross-border trade, and freight rates for most of these indicators.

U.S. & Canada Class I Rail Traffic – Carloads & Intermodal Units Carried

Through the twenty-ninth week of 2017, total traffic remained up 5.2 percent with carload traffic up 6.2 percent, down 20 bps, and intermodal traffic up 4.1 percent, up 10 bps. Week twenty-nine performance remained solid, although it declined from the yearly average for the second consecutive week.

These numbers continue to not be far off from the total traffic originated results of 5.5 percent for the first twenty-nine weeks of 2017 for North America rail traffic, published by the Association of American Railroads [AAR] data. Investors should remember that total traffic carried includes both originated and received carloads and intermodal units. Additionally, U.S. traffic was up 4.3 percent and Canadian traffic was up 11.5 percent, closely tracking the carried rail traffic when combined. Mexico traffic was down at -1 percent, as improvement has continued.

Container traffic was up 4.1 percent, which was flat. Through early-July, domestic intermodal pricing for both eastbound and westbound averages have improved being up 9 to 10 percent versus last year. Fuel surcharges have been a big part of improved pricing, some concerns have been expressed for contract rates.

Week twenty-nine witnessed weekly coal carload traffic at 109,000 carloads carried. This reflected a 1 percent increase versus last year. Coal was much stronger during the first half of the year than in 2016, this is the third consecutive week with performance below 3 percent. Grain performance was down, at -10.6 percent versus last year. Similar to coal, weekly growth from this point forward will be choppier; this was the third consecutive week of negative performance.

Motor vehicles and equipment carload traffic performance was down -8.4 percent versus last year - the second consecutive drop from previous performance levels. Chemicals were up 3.6 percent, petroleum products were down at -5.1 percent and crushed stone, gravel and sand remained on a roll, up 18.1 percent.

Trucking Industry

Source: Cass Information Systems, Cass Freight Index

As of mid-July, dry van trucking industry spot rate averages increased further, being up nearly 16 percent from last year. Seasonal performance has remained strong led by flatbed, temperature-controlled and heavy haul. LTL has remained strong while dry van and specialized have lagged peers.

With earnings in full swing now, trucking industry peers have been witnessing strong results despite weekly volatility. We will need fundamental improvement and confidence for sustained demand and/or a tighter capacity environment for stock prices to go substantially higher. With the recent negative performance, select companies remain at discounted prices irrespective of the potential for accelerated growth in the near term.

Air Cargo

After C.H. Robinson Worldwide’s (CHRW) lackluster results, the continued trend for strong air cargo results pushes on. June numbers have remained robust as the trend from summer last year has been sustained. Other global air cargo carriers including International Airlines Group and Air France-KLM (OTCPK:AFLYY) Cargo both displayed strong performance.

This upcoming week, both Expeditors and Matson will be reporting, each with its own logistics segments. Expectations for Expeditors are positive due to its product mix, while Matson is a little more questionable. UPS also witnessed solid results from its earnings report, but was nonetheless punished in the transports sell-off. Investors have tended to either bid up or discount companies depending on their recent sentiment.

Container Shipping Lines

Source: Alphaliner – Top 100 Operated Fleets

Pricing for spot market container rates has remained in a downtrend since the peak in mid-January, per the Shanghai Containerized Freight Index (SCFI). But the last week of July did display a significant uptick with the peak-shipping season approaching.

Year-over-year (YoY), the Shanghai to West Coast average spot rate jumped strongly to above 35 percent; to the East Coast, average spot rates have remained up strongly, above 35 percent as well. Asia to Europe average spot rates witnessed a reversal into negative territory, with the exception being to Rotterdam, which was still up over 30 percent. The Trans-Atlantic trade is now mixed with the trade to Europe up nearly 20 percent, and trade from Europe down nearly 10 percent.

Two items of interest include the preliminary vote of the International Longshore and Warehouse Union (ILWU) and improving exports from the U.S. The initial votes from the ILWU displayed that a three-year contract extension through July 2022 has been approved. This is significant as it allows a new five-year period of stability for West Coast seaports. Another positive has included the increase in U.S. exports, which has been driven by the declines in the U.S. dollar. These items bode well for continued competitive factors for container shipping trade.

North America Seaports

The numbers for June North America seaports will be out sometime next week. Indications are suggesting that we may see an uptick in growth, or fairly stable results at a minimum. Depending upon how the current momentum continues through the peak shipping season and year-end, 2017 may shape up to be a very strong year.

There is some activity occurring on the rail side of things, notably the upcoming Surface Transportation Board (STB) pending vote on regulating the chemicals industry. Many have expressed concerns that could impact intermodal diversion and congestion issues for Class I rail operations. With two board seats still needing to be filled, action is still pending.

North America Cross-Border Trade

The iShares MSCI Mexico Capped (EWW) was down by 150 bps. The index continues to outperform the iShares MSCI Canada ETF (EWC). The Mexico index is now up 28.9 percent for the year versus the 6.7 percent result for the Canadian index, which was a 40-bps increase.

The two news pieces of interest this past week included Mexico’s public statements regarding their openness to improving the U.S. trade deficit with the country. Additionally, the border adjustment tax was eliminated from legislation, so retail stocks rallied as this fear is no more. With North America Free Trade Agreement (NAFTA) talks still imminent, the path forward for the U.S. to improve its trade deficits will largely depend upon improving export agreements.

Summary

Transports have now witnessed two consecutive weeks of negative results, which have been substantial. Nothing has fundamentally changed suggesting that the story for accelerated economic growth is waning.

In fact, the opposite occurred with the initial GDP results up 2.6 percent for the second quarter. The U.S. economy has now witnessed two consecutive quarters of YoY expansion as the first half of 2017 has accelerated. If all goes well, this pattern will continue, possibly over the next year or so.

Disclosure: I am/we are long CNI, KSU, GBX, JBHT, SNDR, ODFL, FDX, DPSGY, XPO, HUBG, ALK, MATX.

I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.