The Issues that Comprise my Portfolio: CSX

The second portfolio building block that I’d like to go over is CSX, the Jacksonville, Florida based train transportation company that dominates much of America’s East Coast. I first bought 36 shares of CSX on 9/13/13, only to, as described in the previous post, have the bank force the sale of my entire portfolio in the process of buying my house. I re-initiated a position in CSX with 35 shares on 1/13/14. Since that time, CSX has been a successful investments, despite some recent weakness in the transport sector. Since I initiated my position, it has risen from $28.42 to today’s current price of $33.90. This represents a gain of 17.82%.

During that time, I have collected five dividend payments, and seen the quarterly payout raised significantly. When I (re) purchased my shares, the dividend sat at .15 cents per share, and it has since risen to .18 cents per share, a raise of 20% in approximately 18 months. Included in this calculus is the announced but as-yet undistributed raise of two cents, from .16 to .18 on the dividend payment that went ex-div on 5/27/15, and will be distributed next week, on 6/15/15.

I consider what we’ve seen recently to be spectacular dividend growth in such a short time frame, and I wouldn’t be the least bit surprised to see it continue for quite a long time, as the dividend yield still sits at just a projected 2.12%. Importantly, this yield would be slightly higher than its five year average yield, which is 2%. All in all, I have seen my quarterly dividend income from this emerging giant jump from $5.25 to $6.48 every three months, an increase of 23%.

Thesis and Outlook

Now that I’ve considered my specific performance with this stock, I’d like to go over a bit of why I like the industry in general, and what macro trends, positive and negative, I consider the industry and company to be experiencing, giving rise to my thesis.

Lately with CSX, the elephant in the room has been coal. Thanks to a variety of factors that are largely out of CSX’s control, coal shipment volumes continue to fall in the Unites States. Chief among these factors is the Obama administration’s rules for coal-fired power plants, which has made coal less competitive on price, just as many of the world’s energy majors such as Exxon (XOM) and Royal Dutch Shell (RDS.B) have made huge investments in an alternative they believe to have a brighter future- natural gas. This trend is only forecasted to continue, as CSX announced at the recent JPMorgan Aviation, Transportation, and Industrials conference that they expect at least a further 5% drop in volume this quarter, with the trend beginning to level off in the future.

Despite this glaring weakness in what has been a strength for CSX during most of the company’s existence, I expect it to be nothing but a speed bump in the future. This is because, as they say, railroad earnings are very much tied to larger domestic and world-wide GDP growth, and I am an optimist on this front. Sure, there are some scary spots around the globe, especially with the possibility of a property bubble in China, and to some extent, even after all these years, the possibility of “Grexit“, or the exit of Greece from the European Union, and the fallout that would entail.

Ultimately, though, I think those two things are not that likely to rear their ugly heads, and, if one or both were to occur, not very likely to be as catastrophic as we might imagine. Especially with the China real estate bubble, which I consider to be much more ominous than the possibility of Greece leaving the EU, I believe that the effects would not be felt nearly as strongly by the American economy as by those in Asia itself. Though we like to delude ourselves into believing that China’s economy dwarves that of the United States, it absolutely does not. Even when the United States saw its own, much larger, more internationally connected and important bubble burst, China continued to see GDP growth of 6+ percent the entire time. I suspect effects for the United States of a Chinese property bubble would be even more mild than what the Chinese experienced during the popping of America’s property bubble.

Because I view our two major headwinds as unlikely to rear their ugly heads, and unlikely to actually hurt the United States economy if they do, I consider the macro economic conditions in America to be basically stable, and therefore expect to see GDP growth of between 1.5%-4% until something major changes. This stable macro economic climate should augur well for rail shippers like CSX.

Next, I believe that CSX is a wonderful company that is being well run and has a durable economic advantage over its competitors in the trucking industry. Therefore, I believe there will be a long-term trend away from shipping by truck towards shipment by rail, especially for longer hauls.

As we all know, energy for transportation is not getting cheaper, and United States public infrastructure is continuing to deteriorate. Though crude oil prices have seen a dip in the second part of this year thanks to OPEC deciding to keep its oil production static in the face of oversupply, in the long run demand for oil will increase, as it always has, and the price of oil will increase, as it always has. Concurrently, oil is a finite resource, and as demand rises and supply diminishes, it is a fact of economic nature that its price will increase.

GasPricChart

Along with inevitably higher gasoline prices is the fact that America’s public infrastructure is decaying at an alarming rate, with little hope for the large scale investment needed to update it. At the same time, with population growth, more and more passenger cars can be expected to hit America’s roads and highways. As we’ve all seen, the result of this is predictable- terrible traffic congestion that only seems to get worse year by year.

I believe these trends will continue to push shippers to use rail more, and bodes very well for CSX in the long run.

Lastly, CEO Michael J. Ward and the rest of the top brass have a history of driving increased efficencies and cost increases, enabling bottom line growth, even with less than favorable macro trends. This discipline in expenses can be seen in their total revenue vs. total expenses, which, according to Morningstar.com have been very strong. For instance, in 2010, CSX reported expenses of $12,163 (in millions) while earning $19,565 in total revenue. Last year, though, they reported expenses of $19,329, versus  total revenue of $29,961.

This, to me, shows that the company is being much more efficient in how it earns its money, able to charge higher prices for services that are costing it less to operate. Evidence of this can be seen in CSX’s earnings per share, with the company netting more and more each year. In 2010, 2011, 2012, 2013 and 2014, CSX made $1.37, $1.67, $ 1.79, $1.83, and $1.93 respectively in earnings per share. This is the type of smooth earnings growth investors like to see. Importantly, all of this is taking place while coal, which used to be one of CSX’s most important components, has been in free-fall. Eventually, the bottom will stop falling out of coal, and CSX will remain a disciplined business that is able to charge more and more for similar services because of its quality and efficiency.

Conclusion

There you have it folks. CSX is a company that has been very good to me, giving me nearly 20% capital appreciation, and 23% dividend payout growth since I partnered with the company just 18 months ago. To me, that is a wonderful rate of return, which I would take over and over again.

The main impediment that the company faces, as investors are all-too-familiar with, is the continued drop of coal shipments in the United States and abroad, as less and less power plants use it as an energy source, and more turn to natural gas instead. However, coal will not continue dropping forever, it will find a level someday, and CSX has managed to stay profitable for the entire time one of its main business drivers of the past has been in free fall.

At the same time, the world’s macroeconomic climate is basically stable. The United States continues to climb out of the recession that occurred at the end of the last decade, and has seen GDP growth of around 2% for several years now. Job growth during the Obama administration has been better than at any point since the 1990’s. Median wages in the United States have finally begun to tick up after years of stagnation, hours worked are on the upswing, and the labor force participation rate is headed up. The two major headwinds facing the world economy, a Chinese real estate bubble and the possibility of “Grexit”, the exit of Greece from the European Union, will probably be much more painful locally than to the United States economy.

Lastly, CSX is a well-run company with a wide moat, able to raise prices while offering the same services at less cost to themselves. They have a wide moat that makes new entrances into their field nearly impossible, thanks to the cost of infrastructure, and structural trends, such as the move away from shipment by truck towards shipment by rail and high gasoline prices (eventually) continue to be in their favor.

Disclosure: Long CSX, RDS.B

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The Return: Taking a Look at the Issues that Make Up My Portfolio

Since setting this blog up, clearly I dropped the ball, and went another direction with my writing.

Luckily, that didn’t stop me from continuing do live frugally, add to my portfolio cash reserves when ready, and deploy that cash when I reach my chosen threshold. Generally, what I’ve done is wait until I have enough cash to make two purchases, and make one purchase. In every case since I’ve started investing, my investments have been in lots of approximately $1,000, and I consider this a “full position”.

Obviously, someday I hope to scoff at the notion of $1,000 in an AT&T (T) or Chevron (CVX) being a full position, but that is where the portfolio is today. The reason I generally wait to be able to make two purchases, and then actually only deploy half of that amount, is that I obviously always want to have at least one purchases worth of cash should an unexpected opportunity arise. Now, with the market reaching loftier and loftier valuations, I find myself stretching this rule, and starting to save even more in my cash reserves before finally breaking and investing in whatever I find to be the most compelling (but probably still overvalued, to be honest) opportunity when the market hits a snag. As they say, in a lofty market such as this, it is difficult to find good value, and I worry that, no matter the quality of the companies in which I invest, a sudden market correction could punish any stock issue, for an extended period of time.

Lastly, another thing I have been doing to cope with this stretched market is to allot additional capital to my monthly mortgage payments in lieu of my portfolio cash reserves. Normally, I would not be a fan of paying additional principal towards the mortgage, especially on a loan that was originated less than three years ago. The reason for this is twofold: first, the maximum return I get for “investing” in paying my mortgage more quickly is exactly equal with the interest rate. Since I was able to buy my house in the downturn following the Great Recession, I have a pretty good interest rate in the low fours, so that is a low rate of return. Secondly, my mortgage payments should grow pretty slowly with the rate of tax and insurance increases in the Boston area. Though its not impossible that these could pace suddenly higher, I look at it as unlikely.

With this in mind, and keeping in mind that via inflation alone, not to mention hopefully career advancement, I should be making more money on absolute terms in the future than I am now, I consider it smart to pay the mortgage more heavily in the back half than at the beginning.

With the market at this level though, I really don’t think there is THAT much lost in putting most of the money that would have gone into my cash reserves to be deployed to buy stocks into paying down extra principal instead. Whatever value is lost, and I admit there could be some, is likely worth it to me in the added psychological benefits of seeing my debts go down, and my net worth and equity go up immediately as I pay down the house.

Now, with some of the mechanics of how I actually go about investing, I would like to commence an issue by issue look at the components of my portfolio.

Apple

On November 22nd, 2013, I initiated a position in Apple, one of the very first purchases I made since re-instituting my portfolio following a sell-off to make the bank happy in order to buy my house. At the time of purchase, the company was trading at $74.20 (split adjusted- I bought prior to the 7:1 split and massive dividend increase), and it now trades at 127.80, meaning I have experienced an increase of 70.6% since that fateful day.

This has been my most successful investment to date, and I expect that trend to continue.

Since then, I have received Apple’s dividend six times, and reinvested it into more shares of this wonderful company immediately each time. That means that I have gone from making $6.52 every three months off of my $1,000 of Apple stock, to netting $7.42 every quarter.

Now, obviously I could have done better with the stocks I mentioned previously, T or CVX, but I certainly would not have come close to hitting my first four-bagger (100% capital appreciation) as I have so far with AAPL. And I think the future is still bright for Apple.

Obviously, the bulls and bears will always have it out over this stock, and I have read the cases many times for both sides, and you can put me squarely, firmly, and loudly in the bull field. My biggest concern with the company is simply the law of large numbers- as the largest in the world, and approaching the inflation adjusted largest business in modern HISTORY, it is difficult for AAPL to make a large or sudden dent in its earnings.

At the same time, when I travel to other countries or even less urban parts of this beautiful country, I see opportunities for AAPL everywhere. Literally millions upon millions of hungry potential customers, everywhere you look. The world has truly just begun connecting, and the upper echelon of American and Western European society may have begun to reach their saturation point with AAPL products. But thinking that this means AAPL’s growth is done is, in my estimation, a huge mistake.

As populations grow, as the world economy grows, and as developing countries like the BRICs, parts of Africa and the Middle East and more continue to develop, millions of people are joining the middle class every year. These new middle class entrants will continue to want AAPL products because of three huge and important factors: their quality, their ease of use, and the status which they confer to their owners.

Simply put, Apple products are nice, easy to use, and people love owning them.

Obviously, I believe that with continued sales growth, that $150 BILLION plus pile of cash just waiting for an opportunity to be repatriated, and a solid payout ratio of just 20%, AAPL’s dividend will continue to grow, and provide me with a large part of the growth part of my dividend growth portfolio.

Other businesses, such as Royal Dutch Shell (RDS.B) or Realty income (O), are included in my portfolio for their current yield. AAPL is not one of those companies, but I believe that one day it could be, and I will enjoy the capital appreciation and dividend growth along the way.

If you’ve stuck with me through this long post, which included an introduction about my portfolio and the first in my series going over the thesis I have for each company I own a part of, I thank you. Stay tuned for more.

Next on the list: CSX

Disclosure: Long all aforementioned securities