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LCC’s EPS of $1.61 compared favorably to the consensus estimate of $1.56 and our estimate of $1.57, and investors responded by driving shares of LCC up 7% before turning on a dime and falling 10% from session highs when management disclosed 3Q PRASM growth rate guidance of ~1% y/y. We thought our prior 3Q PRASM growth rate expectation was conservative at 2% y/y, but apparently it wasn’t. Running this comp-adjusted growth rate into 4Q implies minimal, if any, top line growth for LCC through the end of the year. This, combined with higher jet fuel prices, clearly results in an unfavorable adjustment to EPS.
EPS ex-items of $0.69 was above the consensus estimate of $0.68 but below our $0.72 estimate (which was admittedly aggressive). DAL came in at the high end of non-fuel CASM and provided disappointing 3Q guidance on non-fuel unit costs, in our view, but we see multiple items breaking favorably on the CASM front for DAL over the next six months. Until then the pressing question becomes: can the revenue environment hold up? DAL, along with most others that have reported so far, seem to believe that it can, and data we use to evaluate demand trends appears to reaffirm that while PRASM is decelerating it is doing so at a rate reasonably close to costs.
JBLU reported EPS of $0.16 in line with consensus but above our $0.14 estimate, beating us entirely on costs. Note JBLU benefited from a $10M gain on the sale of spare engines and E190 aircraft which accounted for $0.02 of EPS. JBLU also reduced FY CASM ex-fuel guidance by 50bp though this was probably due to the beat this quarter as well as an incremental 50bp of capacity growth in 2012.
In this note, we provide an update on two tax policy issues impacting the financial markets: repatriation transactions and bills to extend expiring individual tax cuts.
WAB beat 2Q Cons. by 8% and has now beat expectations for 10 straight qtrs. into continued robust rev. growth and margin improvement. WAB continues to execute extremely well but slower Freight rev. growth would seem negative for mix. We also believe the implementation of PTC will eventually be delayed beyond the original 2015 deadline. So after strong stock outperformance the past 2 years, we would await pullbacks to add to positions. Longer term, WAB remains uniquely positioned to benefit from secular growth in global freight and passenger rail demand.
R reported 8% above its recent downside pre-report but 9% below its initial guidance for 2Q. R has underperformed materially YTD and while EPS visibility remains low for C13 in our view, we see potential catalysts ahead including reduced maintenance expense associated with a younger leasing fleet and improving free cash flow in C13 which is historically positive for R’s stock. Downside at 9.1x forward P/E on our below Cons. estimates also seems limited.
UPS reported EPS 2% below Cons. and reduced full-year guidance at the midpoint 5% below prior Cons. UPS’s stock had been grinding upwards, likely as a big cap name with a 3% dividend yield. With increasingly difficult U.S. vol. comps in 2H and a deteriorating European market, we don’t see strong upside drivers, while at less than 15x forward P/E including accretion from TNTE, we don’t see material downside. We prefer FDX for its lower valuation and 3 emerging catalysts.
We have lowered our 3Q EPS est. from $0.75 to $0.72 vs. prior Cons. $0.76 on continued yield pressure and fewer working days relative to the prior year. While our full-year C12 est. is unchanged (2% below prior Cons) including the 2Q beat vs. our low-end expectations, we are lowering our C13 EPS est. by 2% to $3.20 vs. prior Cons. of $3.27. While we don’t see urgency from mgmt to force improved Net Rev. growth through cost savings or acquisitions, we sense Transport yields should be nearing a bottom as they reached their lowest level since at least 1Q:95 this qtr. Longer term, CHRW continues to take truck market share (unlike EXPD in its core markets) and downside from 18x forward P/E seems limited.
Despite a 12% drop in coal vols, NSC grew EPS by 16% y/y in 2Q and beat Cons. expectations by 5%. Similar with the other rails in 2Q, rev. growth missed our expectations on weaker yields, while margins were better than we expected on a large fuel benefit and lower comp/employee. An $0.11 fuel lag benefit doesn’t seem sustainable but muted labor inflation does. On our unchanged estimates, NSC is trading at 11.5x forward P/E, historically an attractive entry point for the rails. NSC is managing coal headwinds better than we expected, although we expect coal will continue to pressure overall vols and yields in the near to medium term. So while longer term upside seems attractive, we retain our Peer Perform relative to UNP (rated Outperform).
It has been said by many that stock picking is dead or that it hasn’t been “paying off” recently. While correlations remain high and the environment for stock picking is clearly more difficult than in the past, we do not believe that it’s entirely lost in the investment process (that’s coming from a top-down biased group!). In addition to a highly-correlated environment, the business cycle has been shorter than normal and more volatile than in past decades in which most backtests are constructed. Moreover, an enormous M&A cash build-up on corporate balance sheets as well as ongoing stimulus rumors have made the short side of investing even riskier. Surely, it is a bitter experience when a shorted stock rips to the upside because of rumors of QE3 or the like. While we can’t prevent the rumor mill from circling, we can take steps to help increase the hit rate on the short side. While much of our work in the past has been about selecting stocks within the context of the business cycle, this report focuses on a short-selection model that we believe is fit for all seasons and for all investors … no regressions necessary!
A good model starts with strong building blocks. When creating a short model, too often investors simply take the “bad” side of a long-only model. While this can be moderately effective, it may not be the best solution possible. As we’ve seen with many factors (e.g., accruals, momentum, etc.), performance is not always symmetric across fractiles. We built this model (last published in 2010) with a short-only framework in mind from the bottom up. Over half of the factors in our model display great efficacy on the short side, but not on the long side. Too often a factor displaying this profile would be tossed out by stock pickers. Since we’re only looking for shorts, we’ve kept them. Since 1994, the model has outperformed the S&P 1500 over a 12-month period only 13% of the time (or underperformed 87% of the time!). Note the performance in 2012 (and since 1994) has been a consistent downward trend, hardly displaying a market-like profile (i.e., beta) that so many models look like today.
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