Railroad Stocks Look Ready to Roll Again, Says Analyst

A catch-up may be at hand, wrote Evercore ISI analyst Jonathan Chappell in a recent note. Rail stock valuations slid below 17-times next year’s earning—several turns below the S&P 500’s multiple. That compression exceeds the risk of further disappointments, Chappell believes.

“[R]eversion seems likely,” he wrote, “as volumes bottom and begin to improve (along with service) and as the regulatory headlines fade.”

Norfolk Southern operations and earnings have suffered, as might be expected, as it remedies spills from the East Palestine derailment and spends on new safety measures. The railroad’s East Ohio mainline won’t fully reopen until midsummer. Volumes are down. Costs are up.

In the June 15 report, Chappell cut his June quarter earnings forecast for Norfolk Southern by more than 10%, to $3.02 a share. His forecast for $12.83 in earnings this year is 6% below the railroad’s 2022 earnings.

But with Norfolk Southern stock down to near 16 times Chappell’s 2024 earnings forecast for $13.73 a share, he rates the shares at Outperform. He thinks they could rise to $247 from a recent $220. The shares are now his top pick.

Norfolk’s CEO faced harsh government hearings, after the derailment, and the rail industry braced for expensive new safety legislation. But despite bipartisan support for a “Rail Bill,” the legislation never even came to the Senate floor for a vote. The industry’s regulatory overhand seems to be fading, Chappell wrote.

Volumes at most other railroads have remained disappointing this quarter, acknowledges the Evercore analyst. Booming spring grain shipments on Canada’s railroads abruptly subsided. Forest fires hurt timber volumes. Intermodal container shipments have slowed across the industry. So Chappell trimmed his industry earnings forecasts for this year and next. He’s hoping his forecast cuts are the last.

Yet he maintains Outperform ratings on Union Pacific, Canadian Pacific, and CSX. The latter seems to be an investor favorite, Chappell noted, thanks to CSX’s improved service performance and relatively modest volume declines. When volumes eventually recover, he thinks CSX stock can rise to $36 from a current $33.

In this June quarter, Canadian Pacific began integrating its acquisition of Kansas City Southern. As analysts get a sense of expected synergies, in coming investor meetings, Chappell thinks the stock can rise to $84 from $78.

Uncertainty has also hung over Union Pacific, as the large Western railroad seeks a new chief executive and works to improve its service and freight volumes. Signs of recovery could lift the stock to $228 from today’s $202.

“[I]t feels as if the worst of the operational and financial headwinds are now behind Union Pacific,” Chappell wrote.

Write to Bill Alpert at [email protected]