Class I Rail Traffic July 2017 Update - Intermodal Will Be A Core Driver For The Remainder Of The Year

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Includes: BRK.B, CNI, CP, CSX, KSU, NSC, SPY, UNP, XTN
by: James Sands
Summary

Total Class I rail traffic through July of 2017 was up 5.1 percent, with carload and intermodal traffic up 5.9 and 4.3 percent.

Carload traffic is beginning to show signs of a peak from midyear, and a slowdown for core commodities including coal, grain and motor vehicles and equipment.

Commodities remaining more stable have included chemicals, crushed stone, gravel and sand, metals and metallic ores.

Intermodal container traffic has remained highly robust and is poised to provide strong growth through 2017.

For July, there was a divergence between Class I's experiencing continued growth, and those witnessing stronger declines for carload traffic.

Class I total traffic has begun to slow more intensely as of July 2017. This was evidenced by some rail operators now experiencing negative carload traffic performance versus last year - notably BNSF (NYSE:BRK.A) (BRK.B) and Norfolk Southern (NSC). Overall, monthly performance was up 5.1 percent versus last year. Compared to last month’s 5.9 percent improvement, this reflected an 80 basis-point (bps) decline and the second consecutive monthly decrease.

It should be noted that all carload and intermodal unit traffic is reflective of carried railcars. Carried railcars are a combination of carloads and/or intermodal units originated and received. Investors looking for information regarding unique carload and intermodal unit growth should review the weekly rail traffic reports provided by the American Association of Railroads (AAR).

Despite the “double-counting” effect from using carried railcars, this is an important metric since all railroad operators collect revenue for any railcars utilizing any part of their network or equipment. Comparatively, total U.S. originated rail traffic was up 4.2 percent for the first seven months of 2017, a 30-bps decline from the previous month.

Mexico-originated rail traffic, for the first seven months of the year, was down -0.3 percent (a 110-bps improvement from last month), while Canada was up 11.5 percent (a 30-bps decline). North America railroad traffic was up 5.4 percent through June 2017, a 30 bps decline. This mirrors the 5.1 percent growth for U.S. and Canada Class I's carried railcars.

On a year-over-year (YoY) basis, total rail traffic dipped below the 5 percent level for only the third time out of the previous nine months. Despite the dip, July reflected the ninth consecutive month of positive performance. Canadian National (CNI) continues to be the strongest performer with total rail traffic up 11.9 percent through July - a 10 bps improvement from June.

Canadian National led all Class I's for intermodal units, up 13.1 percent; Kansas City Southern (KSU) has remained the leader for carload units up 10.2 percent through the year. Other performance for total rail traffic was as follows: BNSF 7 percent, Kansas City Southern 5.9 percent, Norfolk Southern 4.5 percent, Canadian Pacific (CP) 3.8 percent, Union Pacific (UNP) 3 percent and CSX (CSX) 0.8 percent. Carload traffic weighed on most Class I's, and many witnessed positive performance during July, with the exceptions being Canadian Pacific and CSX.

For Class I container traffic YoY, July performance increased by 6.6 percent versus last year, a 20 bps decline from June’s 6.8 percent. Investors should note that container traffic includes both international and domestic services.

The month of July represented the third consecutive month of results at or greater than 6 percent, YoY. Additionally, the last week of the month set a new record for container traffic rivaling pre-recession levels. As carload traffic growth declines due to a higher comparable, container traffic will likely be the strongest driver moving forward, assuming the peak shipping season remains strong.

July reflected the ninth positive month out of the previous ten. The 6.6 percent performance was the second highest result for 2017. Trailer traffic has now witnessed five consecutive months of positive growth from last year, July’s result increased by 200 bps from June to 8.3 percent, setting a new monthly record for the year.

Source: Class I websites and personal database, container units carried

To date, all Class I's have now witnessed positive growth for container units carried. Kansas City Southern has continued to lag peers, but has improved substantially in July getting into positive territory for the year. Container traffic was flat or better for all Class I's except for Canadian Pacific.

During 2017, there has been a distinct improvement for Canadian National at the expense of Canadian Pacific. Canadian Pacific’s intermodal traffic performance in July was negative YoY, while all other peers were positive. Most Class I's witnessed improving container and trailer traffic during July. It should be noted that Canadian National’s trailer performance is reflective of an immaterial amount of traffic during 2016.

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U.S. and Canada Class I carload traffic witnessed a very marginal positive result with a YoY increase at 0.4 percent, reflecting a 470 bps decline from June. As the chart above depicts, investors should get used to seeing 2017’s performance much closer to that of 2016 from this point forward. A reversal in traffic could be on the horizon for coal, grain and motor vehicles and equipment. This type of performance is in stark contrast to intermodal trends, and is a clear indication that intermodal will play a stronger role in the short term.

Similar to June, July’s performance witnessed a strong decline, and reflected the third consecutive month of declines. The trend remains positive as we have now witnessed nine consecutive months of YoY growth, although July’s result was the lowest since November of last year. Through the year, all Class I's in the U.S. and Canada have maintained positive carload traffic. However, the month of July witnessed negative performance for CSX, Norfolk Southern and BNSF, followed by very weak performance from Union Pacific and Canadian Pacific.

For Class I carload top five commodities, coal witnessed its worst performance of the year in July being up 0.9 percent YoY, versus the 9.9 percent gain during June. Performance for Class I's during the month was as follows: Norfolk Southern 7.3 percent, BNSF 3.9 percent, CSX 1.3 percent, Union Pacific -0.1 percent, Canadian Pacific -5 percent, Canadian National at -11.5 percent and Kansas City Southern -19.7 percent. Coal witnessed its first negative comprehensive week of the year this past week.

Chemicals performance was up 3 percent during July YoY, versus the 4.8 performance during June. Performance for Class I's during the month was as follows: Canadian Pacific 7.1 percent, BNSF at 4.4 percent, Union Pacific 4.2 percent, Canadian National 4.2 percent, CSX 3.8 percent, Norfolk Southern at -0.2 percent and Kansas City Southern -8.4 percent. Chemicals remains as a potential driver for stable performance over the next five months.

Source: Class I websites and personal database, carloads carried

Motor vehicle and equipment performance declined at -5.1 percent during July YoY, versus a -1.1 percent decline in June. Performance for Class I's during the month was as follows: Kansas City Southern 21.8 percent, BNSF 2.4 percent, Canadian National 2 percent, CSX at -7.3 percent, Union Pacific at -8.8 percent, Norfolk Southern at -11.5 percent and Canadian Pacific at -21.7 percent. July’s negative performance was the worst during 2017 and reflected the third negative month out of the past five.

Grain performance declined strongly, at -10.1 percent during July YoY, versus the 5.5 percent gain during June. Performance for Class I's during the month was as follows: Kansas City Southern at 2.3 percent, Canadian Pacific 2.1 percent, Norfolk Southern 0.8 percent, Canadian National -4.4 percent, Union Pacific -9.8 percent, CSX at -18.1 percent and BNSF -20.5 percent. July’s performance reflected the first monthly YoY decline in over one year.

Petroleum performance declined by -8.5 percent during July YoY, versus the -5.9 percent decline during June. This marks the sixth time during the previous 19 months that petroleum has performed in negative single digits. That’s pretty tough when negative single digits is the high standard.

Performance for Class I's during the month was as follows: Kansas City Southern 51.1 percent, Canadian Pacific at 10.1 percent, Canadian National 3.8 percent, CSX at -16.1 percent, Norfolk Southern at -18 percent, Union Pacific at -19.7 percent and BNSF at -22.5 percent. Energy reform in Mexico has generated strong growth for Kansas City Southern, which is expected to continue. Canadian rails have also benefited as crude-by-rail (CBR) has not comprehensively been in high demand with new pipeline infrastructure growth of late.

Crushed stone, gravel and sand increased by 27.2 percent during July YoY, versus the 29.2 percent increase during June. This is the seventh consecutive month of double-digit performance versus last year, and the sixth with performance greater than 25 percent.

Performance for Class I's during the month was as follows: Canadian Pacific 92.7 percent, Canadian National 83.7 percent, Kansas City Southern 47.1 percent, BNSF 35.1 percent, Union Pacific 29.6 percent, Norfolk Southern 2.6 percent and CSX -3.8 percent. Demand remains robust as shale drilling continues.

Based on the performance by individual Class I's, coal, chemicals, motor vehicles and equipment, grain and crushed stone, gravel and sand have continued to lead the improvement for carload traffic performance for the year, despite the slowdown and in some cases, negative results. Metals products remains positive through July up 4.9 percent. As stated, over the past couple of reports, the majority of these commodities may continue to experience higher comparable levels in the short term. Investors should continue to monitor these top six commodity trends as they reflected nearly 68 percent of carload traffic through July.

Through early August, rail stocks have all declined from their midyear highs. CSX remains the top performer, up 37.1 percent through August 3rd, and will likely keep this position for the balance of the year. All Class I's continued to outperform the SPDR S&P Transportation ETF (XTN), with the exception being Union Pacific. Union Pacific, Norfolk Southern and Canadian Pacific have all now underperformed the SPDR S&P 500 ETF (SPY).

Class I's beat earnings estimates handily during the second quarter announcements. The recent decline is part of a reaction from broader weakness in transports, but the market is also factoring in how declining rail traffic may impact Class I peers. As mentioned last month, pricing is going to be a greater focal point, as well as the performance of intermodal traffic.

The cards are set up for intermodal to continue to perform strongly for the remainder of the year. Still, investors should assess analyst expectations for the upcoming quarters, as weaker results for major commodities has materialized. Sustained traffic should support inflationary pricing allowing for increasing revenues and profits irrespective of YoY traffic performance. Outside of intermodal, chemicals, metals, crushed stone, gravel and sand, and metallic ores, there are not a whole lot of positives.

Disclosure: I am/we are long CNI, KSU. 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.

Editor's Note: This article covers one or more microcap stocks. Please be aware of the risks associated with these stocks.