My Two Favorite Railroad Stocks

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Reporting this week is one of my favorite benchmark stocks.

Union Pacific Corporation (UNP) is a railroad company that’s been a solid wealth creator in what’s been a resurgence of old economy stocks over the last several years.

Wall Street earnings estimates have been going down for Union Pacific for this year and next. But the company is still expected to post double-digit earnings growth in 2013 on an estimated five-percent gain in total revenues.

The company provided the marketplace with its own third-quarter guidance. Earnings per share are expected to be between $2.45 and $2.48, compared to $2.19 in the third quarter of 2012. Operating revenues are expected to grow 4.0%–4.5%.

The worry for Union Pacific and other railroad companies is coal. Low natural gas prices are eating away at the demand for coal(NYSEARCA:KOL), which is one of the principal commodities that railroads haul. Warmer weather is also an issue, and the company cited flooding in Colorado as also having an impact on coal shipments.

Union Pacific is typically conservative with its forecasting. But it’s possible that the recent winning streak for many railroad stocks could be coming to an end. Shipments of oil (NYSEARCA:USO) are way up, but not enough to offset declines in coal.

The Association of American Railroads said that 11 of the 20 commodity (NYSEARCA:DBC) categories it tracks saw a year-over-year increase in carload in the month of September. The biggest carload gains were in crushed stone, sand, and gravel, followed by automobiles and parts, then petroleum and petroleum products.

September declines were in coal, down 2.7% to 12,894 carloads, and grain, down 11.3% to 8,627 carloads for all members combined.

This time four years ago, Union Pacific was trading around $60.00 a share. Now, it’s approximately $160.00 a share, with a 2.1% dividend yield and a forward price-to-earnings (P/E) ratio of around 14.5.

On the stock market, Union Pacific has always been a solid performer. The company’s share price was cut in half during the financial crisis, but like so many other old economy names, it recovered strongly to its current level.

Even with a slow quarter based on lower shipments of coal, I wouldn’t necessarily take profits in a company like Union Pacific. The railroad business is still a good one to be in, and revenues are expected to accelerate from their current rate in 2014. (See “Strong Cash Flow, Increasing Dividends Make This Old Economy Stock Attractive.”)

Union Pacific has outperformed on the stock market compared to a number of other railroad stocks, especially over the last six months.

This is a market where I believe existing winners will continue to be the place for investors to be. Union Pacific falls into this category, and its peer group leadership should continue.

I’m not a big fan of buying this market, and equity investors definitely don’t need to rush into any positions. According to history, the right railroad company would be a worthy addition to a long-term equity portfolio. Canadian National Railway Company (CNI) and Union Pacific are my two favorites within the sector.

Contributed by for Profit Confidential

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