Shares of North America railroad operator CSX (NYSE:CSX) have come back to life over the past few months, amid emerging signs that the U.S. and global economies are starting to pick up momentum again with global trade tensions easing. CSX stock cratered in July, but has earned most of that back.
Against that backdrop, CSX also reported third-quarter numbers that, while dour on the revenue front, included record-high profit margins.
Investors cheered the results, with the rationale being that near-term revenue weakness isn’t of great importance. Over the next few quarters, revenue trends will improve as global economic activity picks back up.
Those improving revenue trends will converge on record profit margins and ultimately result in record profit numbers for CSX. Record profit numbers should produce a record high price tag for CSX stock.
Is this rationale the right way to look at CSX stock?
I think so. To be sure, there is some valuation friction here, and $80 to $85 does look like a near-term ceiling for shares. But, economic trends are improving, and so long as those trends keep improving, CSX’s numbers will get better and CSX stock will slowly grind higher.
Global Economic Trends Are Improving
Central to the bull thesis on CSX stock is that global economic trends everywhere are improving.
Long story short, the global economy has slowed markedly over the past twelve months almost exclusively thanks to the U.S.-China trade war. As U.S.-China trade tensions escalated, so did global geopolitical uncertainty, which caused corporate confidence levels across the globe to wane.
Waning confidence levels resulted in reduced capital expenditures, and that hit the global economy hard, because lower capex means lower demand which means slower growth.
But, the source of these headwinds is now reversing course. Specifically, the U.S. and China have agreed to begin working on a series of mini trade-deals, and the trade war appears to be in the early stages of permanent de-escalation. Consequently, corporate confidence levels are rebounding, which will presumably lead to a rebound in capex levels, demand, and global economic activity.
The numbers support this thesis. Just look at leading indicators data from the OECD, which shows that the global economy’s deceleration is slowing. Or, look at both the manufacturing and non-manufacturing PMI readings from October. Both of those readings improved from September, led by a rebound in new orders and activity.
The big idea? The global economy is starting to pick up steam again. As it does, North America rail activity will pick up steam again, too, and that should lead to an improvement in CSX’s revenue growth trajectory.
CSX Could Rally to All-Time Highs
Assuming the company’s revenue growth trajectory does improve over the next few quarters, then CSX stock could rally to all-time highs just north of $80 within the next few weeks.
The numbers are simple. CSX has now reported two consecutive quarters of revenue declines. Revenues are expected to decline next quarter, too. But, improving global economic trends imply that these revenue declines won’t persist for much longer. Instead, revenue declines should turn into revenue growth by 2020/21. Thereafter, steady economic expansion should power historically average 2-3% annual revenue growth at CSX.
Meanwhile, margins should continue to move higher thanks to fuel efficiency improvements and headcount optimizations. Buybacks will remain in the pipeline, too.
Net net, CSX most reasonably projects as a 2-3% revenue grower over the next few years, with upside margin drivers and tons of buyback power. Ultimately, that should produce ~10% earnings per share growth for the foreseeable future. At that rate, my modeling suggests that $7.50 in EPS is a doable target for CSX by 2025.
Based on a historically-average and market-average 17-times forward earnings multiple, that equates to a 2024 price target for CSX stock of nearly $130. Discounted back by 10% per year, that implies a 2019 price target of about $80. That’s where shares should trend over the next few months.
Bottom Line on CSX Stock
CSX stock has its groove back, and with good reason. Global economic trends — which have been dour for the past twelve months — are finally starting to improve. So long as they continue to improve, then CSX stock should continue to grind higher.
As of this writing, Luke Lango did not hold a position in any of the aforementioned securities.