Many headwinds faced rails in Q3 but future could be brighter: Analyst

Third-quarter results might still be under pressure from lower rail volumes and higher operational costs, but investors should keep their eyes on the freight rail industry longer term, according to Susequehanna transportation analyst Bascome Majors.

“We’re comfortable with our yet-again-reduced 2024 forecasts for rails (EPS 3% to 9% below consensus). After more than a year on the sidelines, we’re actively looking for mid-term re-entry points on any short-term stumbles,” Majors said in a Tuesday research note.

Higher labor expenses and lower volumes were among the factors that led Susquehanna Financial Group to downgrade U.S. Class I railroads to a neutral position, according to Majors, who noted the industry could start to see some upside in the coming months, now that industry observers have been able to digest a number of events that had previously provided some uncertainty to the markets.

Union Pacific’s appointment of Jim Vena as CEO and the Surface Transportation Board’s proposed rulemaking on reciprocal switching — a remedy for shippers that will use rail service metrics to gauge a shipper’s ability to have access to a competing railroad — have been among those issues that had previously appeared to be unresolved.

“Net-net, we remain Neutral on the rail sector into yet another cautious earnings season, but increasingly believe reasons not to own rails more broadly are more behind investors than in front of them today. We continue to actively look for mid-term entry points on any stumbles and remain selectively Positive on story-driven CP while we wait,” Majors said.

Looking into the fourth quarter, the railroads will continue to depend on volumes for motor vehicles and parts to help lift volumes overall, although weaker consumer demand and potential production disruptions from UAW strikes could be headwinds, Majors said. Canadian grain volumes aren’t expected to be as strong in the fourth quarter compared with year-ago levels, while “weak” housing starts could put pressure on forest products volumes.

Meanwhile, prices have been lagging for coal in the international markets although spot prices have improved, while intermodal could see some growth by year-end amid a moderate peak season and easing year-over-year comparisons, Majors said. However, weaker contractual truckload rates and “a shaky consumer” could also put pressure on intermodal.

Union Pacific (NYSE: UNP) and CSX (NASDAQ: CSX) will be releasing their third-quarter 2023 results on Oct. 19; Canadian railway CN (NYSE: CNI) will be posting results on Oct. 24; and Norfolk Southern (NYSE: NSC) and Canadian Pacific Kansas City (NYSE: CP) will be announcing Q3 earnings on Oct. 25.