Railroad Stocks Offer Excellent Long-Term Investment Opportunities

One of the best sectors to invest for the long-term is the North American railroad sector. Railroad stocks offer many unique advantages over stocks from other sectors. For instance, the industry is dominated by a handful of companies effectively making it an oligopoly. Moreover for many shippers or locations, railroad companies are a monopoly. I have written about this industry many times over the years. Some of those posts are:

Yesterday’s journal had interesting piece on the long-term investment case for railroads. From the article:

Since Warren Buffett’s Berkshire Hathaway BRK.B 0.21% announced in November 2009 that it would pay $44 billion including assumed debt for Burlington Northern Santa Fe, the market value of North American railroads has risen sharply. That is despite a collapse in demand for the most lucrative commodity that they hauled prior to Mr. Buffett’s deal—coal shipped to power plants—and the fact that volumes have been sluggish for about three years.

An equal-weighted basket of shares of the remaining six Class 1 North American railroads bought the day before Berkshire Hathaway announced the deal would have had a total return of 862% through Monday compared with less than 300% for the S&P 500. Kansas City Southern, including the jump following announcement of its merger with Canadian Pacific, is the best performer over that time with a more than 1,000% return.

A successful deal could bode well for other players if it unlocks further consolidation. Analyst Bascome Majors of Susquehanna Financial Group notes that more deals could follow after 2022 if the official attitude toward consolidation has improved.

But even if the deal is blocked by the Surface Transportation Board, there are reasons to like railroads. A big one is the spread of precision-scheduled railroading—a management concept that has increased efficiency and train speeds but annoyed some smaller customers. Kansas City Southern’s operating ratio, a measure of efficiency, improved to 60.7% last year from 72.8% a decade earlier. And, as concerns mount over global warming, trains are well-placed to take advantage given their far greater fuel efficiency per ton mile than trucks for intercity freight. Railroads are also an excellent hedge against rising energy prices, truck-driver shortages or worsening highway congestion. More expensive diesel often leads to an uptick in rail traffic.

Source: Railroads, Growth Stocks of the 19th Century, Are Hot Again,By By Spencer Jakab, WSJ

I agree with the author’s arguments in favor of railroads.

The following chart shows the price return of Class I railroads in the past 5 years:

Click to enlarge

Source: Yahoo Finance

CSX (CSX) was the best performer in the past 5 years while Canadian National (CNI) was the worst. Still CNI stock increased by nearly 88%.

From an investment perspective, investors with a horizon of 5 years or more can consider adding railroads during market dips in a phased manner.

Disclosure: Long CSX, CNI, UNP and NSC

Why Foreign Stocks Could Beat U.S. Stocks Over The Next Few Years

I have written many times before that no country is the consistent winner in equity market returns every year. The winner in one year could be the loser in next and vice versa. Though US stocks have performed very well for over a decade now, their leadership could be overtaken by their foreign peers. According to an article by Jeffrey Kleintop of Charles Schwab now may be the time to invest in foreign equities. From the article:

Change in leadership

Market leadership usually switches between U.S. and international stocks at the start of a new economic cycle:

  • In the 1980s, international stocks—led by Japan—outperformed the United States for most of the decade.
  • In the 1990s, the dot-com economy paved the way for U.S. stock market leadership.
  • In the 2000s, international markets again took the lead—until the 2008–2009 global financial crisis restored the reign of U.S. stocks (see “And the winner is …,” below).

And the winner is …

U.S. and international stocks keep trading the title of greatest annualized total returns.

Source: Charles Schwab and Bloomberg, as of 10/27/2020. Annualized total return between cycle peaks measured by MSCI USA Index and MSCI EAFE Index. Past performance is no guarantee of future results.

These changes in leadership typically are triggered by a breakdown in fundamentals, such as unsustainably high stock valuations and dwindling earnings expectations. We’re currently seeing signs of fundamental deterioration in U.S. stocks—and as a result, international stocks may again take the lead.

Source: Is It Time to Increase Your International Exposure, Schwab

Related ETFs:

  • iShares Dow Jones Select Dividend ETF (DVY)
  • SPDR S&P Dividend ETF (SDY)
  • Vanguard Dividend Appreciation ETF (VIG)
  • Vanguard High Dividend Yield ETF (VYM)
  • SPDR Dow Jones Industrial Average ETF (DIA)
  • Vanguard MSCI Emerging Markets ETF (VWO)
  • iShares MSCI Emerging Markets ETF (EEM)
  • Vanguard Developed Markets Index Fund ETF (VEA)

Disclosure: No Positions

Related article with an opposite view:

Dividends Can Help Beat The Scourge of Inflation

There are many reasons to invest in dividend-paying stocks. One of the reason for example is to earn income. Another critical factor to invest in these equities is to keep pace with or exceed the rate of inflation. Inflation is the mysterious force that stealthily decreases the purchases power of the dollar. So for example, the value of 1 dollar may be worth only 97 cents in April next year, 95 cents in April 2023, etc. This erosion in the value of the dollar can be called the scourge of inflation.

These days the Effective Fed Funds Rate is ultra-low at just 0.07 percent. The Fed has stated its intention to keep interest rates ultra-low for the foreseeable future. With interest rates so low, savers can only get only under 1.00% in interest rate for a 1-year CD.  Earning this rate is less than the rate of inflation. Though keep cash in banks is safe and secure, savers will lose money by investing in CDs. CD rates in the past used to be decent. However for many years now CD rates for different time periods have declined as shown in the chart below:

Click to enlarge

Source: Historical CD interest rates: 1984-2021, Bankrate

With CD interest rates so low, savers are better off investing in high-quality dividend payers. In a recent articleSteven P. Greiner, Ph.D. of Schwab noted that dividends can help preserve purchasing power. From the article:

For retirees, on the other hand, the regular payouts from dividend-producing stocks have the potential to provide a steady stream of income. And whereas dividend yields from companies in the S&P 500 may have declined over time, it’s important to consider them in the context of inflation.

When inflation is high, it erodes your purchasing power, meaning your dividends must be greater to keep pace with rising prices. The opposite is also true: A low-inflation environment, like the current one, puts less pressure on income. Consequently, you want your dividends to regularly exceed, or at least keep pace with, the rate of inflation—something companies in the S&P 500 has been doing for the better part of five years (see “Preserving purchasing power,” below).

Preserving purchasing power

Dividends from companies in the S&P 500 may have declined, but they have surpassed inflation since 2012.

Source: Robert Shiller and the U.S. Bureau of Labor Statistics. Data are from 01/01/1979 through 12/31/2020. Past performance is no guarantee of future results.

Source: Why and How to Invest in Dividend-Paying Stocks, Schwab

Below are 10 S&P 500 constituents that pay dividends:

  1. Abbott Laboratories(ABT)
  2. Pfizer Inc (PFE)
  3. Walmart Stores(WMT)
  4. NextEra Energy Inc (NEE)
  5. Union Pacific Corp (UNP)
  6. FedEx(FDX)
  7. Emerson Electric Co (EMR)
  8. PPG Industries Inc (PPG)
  9. The Clorox Co (CLX)
  10. Kansas City Southern (KSU)

Disclosure: Long NEE, UNP