Railroads are increasingly transporting time-sensitive and higher-value freight, driving growth in the sector as volumes and margins continue to soar, says John R. Mims, a Vice President at BB&T Capital Markets.
“More than 80% of this freight currently moves by truck versus less than 12% for the rails,” Mims said. “But as rail service levels improve and highway congestion, fuel prices and environmental regulations increase the cost of highway freight, more of this freight will move onto the rails. This is a secular story that will drive growth for perhaps the next 10-plus years.”
Mims has “buy” ratings on CSX Corp. (CSX) and Union Pacific (UNP). CSX built a route that competes with highways, called the National Gateway, and UNP is preparing to renew 12% of its contracts at rates as high as 40%-60% over current levels.
“[The] ‘buy’-rated names are targeting a percentage point or more of operating margin improvement per year over the next several years, and that will have a very meaningful impact on earnings and stock performance from here,” Mims said.
Solar energy companies face decreasing government support and oversupply, leading some to vertically integrate as they scramble to obtain project pipelines, says Christine Hersey, an analyst at Wedbush Securities, Inc.
“Germany has just negotiated additional midyear cuts to their feed-in tariff or subsidy programs, and France, actually in December, had instituted a three-month moratorium on these solar projects while they work out some changes in policy,” Hersey said. “And then the other factor is just the amount of supply that’s coming online. There have been many, many announcements and plans for capacity expansion for manufacturing in 2011, continuing the trend in 2010.”
Hersey points to Trina Solar (TSL) as an outperforming stock in her coverage that has managed to stay above the fray. She says TSL has a transparent business model, avoided purchasing project pipelines, and maintains a recurring and satisfied consumer base.
“I do think, relative to the other names in my coverage universe, they are pretty well positioned for 2011,” Hersey said. “They have one of the lowest cost structures out of any of the crystal and silicon manufacturers, and they also have a pretty well-diversified customer base as far as geography across some of these markets is concerned.”
Airlines in Latin America are expected to lead transportation‘s surge to the upside in 2011 as those countries’ economies expand and business activity in the region increases, Lead Analyst Stephen Trent of Citi Investment Research & Analysis says.
“The way we’re looking at the space at the moment is we’re generally bullish on the airlines, and I think part of the trend there is coming from ongoing wealth creation in places like Brazil, as well as M&A both on a regional and a global level, which I think creates investment opportunities for the airlines as a group,” Trent said.
Trent’s top stock picks among his coverage of the Latin American airline sector are TAM (TAM) for the short term and Copa Airlines (CPA) in the longer term.
“Generally speaking, short term we like TAM in Brazil — the airline — and on a three- to six-month-type basis, I think, our expectations of M&A are going to drive potential gains in that one,” Trent said. “On a 12-month basis, we have somewhat more of a preference for Copa Airlines, the one based in Panama. It’s got the best airport infrastructure supporting its fleet growth. It’s got the lowest valuation multiples and yet the group’s highest margin, so we generally like that combination.”
An M&A restructuring will sweep across the Midwestern banking space over the next 18 months, and Stifel, Nicolaus Managing Director Anthony R. Davis says investors should have exposure to banks that win market share through superior execution, lower their costs and successfully integrate acquisitions.
“You have to remember that the 12 Midwest states are home to 45% of the country’s banks but only 23% of the U.S. population,” Davis said. “For the Midwest’s banking-to-population ratio to reach parity with the rest of the country, 175 banks would have to be merged out of existence every year for the next decade. While excess capacity will mandate further consolidation throughout the industry, nowhere is this more urgent than in the Midwest.”
Davis recommends PrivateBancorp (PVTB) for its ability to win market share and lower credit-related expenses, and he also points to MB Financial (MBFI), which has lowered costs while demonstrating it has structured and successfully integrated acquisitions.
“Chicago-based MB Financial,” Davis said, “has completed six acquisitions over the last two years and has grown core earnings by over $0.60 per share in the process. As of year-end 2010, we believe that 50 of the 240 financial institutions operating in metro Chicago had Texas ratios above 100%. Although the FDIC closed no Illinois-based banks during 4Q10, that agency hasn’t recruited 400 employees for its third U.S. satellite office for the fun of it. We expect a ‘break out’ of M&A activity in Chicago in 2011-2012.”
If the Fed reduces liquidity this year money manager Thomas H. Dinsmore, who specializes in closed-end convertibles, says he will structure his portfolio toward more counter-cyclical industries that are experiencing global demand growth.
“The stock market tends to anticipate things by somewhere between six months and 18 months, so if the experts are already saying that this fall they’ll have ended quantitative easing and they are likely to start figuring out a way to try to prevent inflation, then that would imply that the market is nearing a top,” Dinsmore said. “I do think that they’re likely to try to find a way to gently reduce the overall liquidity, which might mean instead of a 15% up year this year, we may see a 10% up year this year.”
Dinsmore currently overweights in energy, materials and telecommunications as long-term investments, but says a reduction in liquidity would turn him towards sectors that may ride the bear more profitably.
“You try to stay away from cyclical issues, consumer discretionary-type things, which would tend to be autos, airlines, transports, that kind of thing,” Dinsmore said. “You would look for things that might be counter-cyclical, which would be perhaps certain health care issues. And you would want to avoid things like refining and marketing companies within the energy sector.”
Among shopping center REITs, big-box powers centers proved most worrisome through the downturn as demand dwindled and vacancies increased, but because the next wave of store closures never materialized, opportunities developed in the space, Analyst Nathan Isbee of Stifel Nicolaus says.
“If you are looking at one area of growth in the shopping center space, it is those more box-focused REITs, where rents — which, just 18 to 24 months ago were negative 15% to 20%, because you’ve had so much of that vacant space re-leased already — those rents have, in some cases, turned positive,” Isbee said. “We would expect that to continue to improve.”
Isbee’s top picks in the shopping center space include Kimco Realty (KIM), for its recent acquisition activity and removal of non-retail assets; Equity One (EQY), which is upgrading its portfolio; and Ramco-Gershenson (RPT) in the small-cap space.
“[Ramco-Gershenson] is a REIT that has a high-quality portfolio. It’s challenged, given the perception that its 40% exposure to Michigan, as well as a high exposure to Florida is a negative,” Isbee said. “But if you take the time to go out and visit the properties, you realize they have a pretty solid portfolio.”
Trevor P. Bond, President and Chief Executive Officer of W. P. Carey & Co. LLC., talked to The Wall Street Transcript about his company. <a title="W. P. Carey & Co.
LLC. (WPC)” href=”http://www.twst.com/pdf/ALR604.pdf”>Click here to read the complete interview.
TWST: Please start with a brief history of W. P. Carey.
Mr. Bond: In business since 1973, W. P. Carey is a global investment manager and leader in the sale-leaseback sector. We have assets under management for third parties of $8.5 billion, and combined with our own portfolio of approximately $1.5 billion, total assets under management are approximately $10 billion. Because our leases are long term, we are well positioned to weather short-term market fluctuations. We are diversified geographically with investments in 17 countries, predominantly the U.S. and Western Europe.
Our net lease investing activities are carried out through our Corporate Property Associates (CPA) series of income-generating, non-traded REITs. We are distinguished by the fact that we are the only public company sponsor of non-traded REITs. This forces upon us a philosophy of transparency and disclosure, which enhances the marketing of our CPA funds. Twelve of the CPA REITs have run full cycle. And it is important to note that no full-term investor has ever lost money in the CPA Funds
Southeastern banks with strong preprovision earnings are expected to follow JPMorgan Chase’s lead and raise dividends in 2011, creating attractive valuations among the stronger banks in the region, says Adam C. Barkstrom, a senior research analyst at Sterne Agee & Leach, Inc.
“I think if Jamie Dimon sort of sets the stage or raises the dividend in 2Q, I think this sets the stage for the other stronger banks — Wells (WFC), USB (USB), BB&T (BBT) — to boost their dividend,” Barkstrom said. “And I think that has got to play into the valuations of these companies.”
Barkstrom points to Wells Fargo as his top stock pick in the sector. WFC‘s credit trends are stabilizing, their private label put-back risk is very manageable, and Barkstrom expects the bank to raise strong dividends.
“[WFC‘s] preprovision ROA is 3%; industry average is 1.7%. That is a huge difference. Capital accretion for these guys . . . I think now they are at 6.6%. By the end of 2012, they are 9% tangible common. That’s monstrous,” Barkstrom said. “The dividend issue, they at precrisis were paying $0.37 a quarter, now they are paying $0.05 a quarter. So we could see a very significant bump in their dividends.”
Multifamily REITs outperformed last year, and 2011 calls for 10% to 12% total returns for the industry overall. But with much of the sector’s ability to drive NOI growth already built into the stocks’ valuations, Analyst Andrew DiZio of Janney Montgomery Scott is focusing on REITs that are earnings growth differentiators.
“We think if supply is going to be even and job growth is going to be lackluster everywhere, and the big driver of growth has been falling homeownership rates, again we’ve seen that everywhere,” DiZio said. “So we need to invest in multifamily REITs that have some sort of differentiated drivers besides just being to able to say, ‘Well, I’m raising rents.’ I think everyone is going to raise rents somewhere close to equally.”
DiZio’s two picks for multifamily are Essex Property Trust (ESS) and Home Properties (HME). While development wanes, Essex will benefit through 2011 from the purchase of vacant buildings leased up as Class A apartments. Similarly, Home Properties‘ strategy is to purchase Class C apartments and upgrade them.
“Home is really the only multifamily REIT that really has that strategic focus, and what that has historically done is it has resulted in about an additional 100 basis points of same-store NOI above where their peers are,” DiZio said. “When you go back and you look at the last 10 years in terms of same-store NOI growth, Home Properties has actually seen the greatest average annual same-store NOI growth of any multifamily REIT over that 10-year period — 3.7%.”
Large industrial and infrastructure projects are shifting from China’s coastal areas toward the interior, as businesses focus on domestic demand for consumer goods, says Eric A. Brock, a founding partner of Clough Capital Partners, L.P.
“Migrant workers aren’t coming to Southern China to work in the factories. They’re staying home; they are working on these infrastructure projects,” Brock said. “And so what you are seeing is some of these export-oriented industries are moving into the interior, where they can find lower costs and new opportunities. That’s all adding up to higher wages.”
One Chinese company profiting from increased domestic consumption and a rising middle class is Man Wah Holdings (1999.HK). Historically, Man Wah has manufactured reclining sofas for export to the United States but has ramped up production of sofas to satiate Chinese demand.
“The important thing about Man Wah is they just listed last year in an IPO, and in this market that’s expanding rapidly, you can see 50% growth or more in demand for these reclining sofas in China over the next several years,” Brock said. “They have a balance sheet that’s net cash, very liquid, and they have national scale. They’re building a brand, they’re building a distribution and they have three to four times the market share of the next network closest competitor.”
