Dangers on a Train? – CSX

by riskreversal January 13, 2017 2:26 pm • Trade Ideas

Prior to the November 8th Presidential election Transport stocks had some ol ‘timey Dow Jones watchers a bit worried, with the IYT, the iShares Transport etf having failed to keep pace with the broad market’s series of new highs in 2015 and 2016. Since the election the IYT is up more than 10%, having made a new high, above the late 2014 high, but recently settling below those levels.  The etf clearly has technical resistance near $170, and staunch technical support just below $150:

IYT 3 year chart from Bloomberg

One of the IYT’s components, the rail company CSX Corp (CSX), reports Q4 results Tuesday Jan 17th after the close.  The options market is implying about a 3.5% one day post earnings move on Wednesday, which is a tad shy of the 4.4% average one day move following the last 4 qtrs, but basically in line with the 10 year average post earnings move of about 3.3%.

On Nov 8th, prior to the election results shares of CSX were already trading at a 52 week high. They have since rallied 20%, doubling the performance of the IYT and just today are making a new all time high. The stock is up 80% from its 52 week lows made in February, and now ever so slightly above the epic double top from 2014 – 2015:

CSX 5yr chart from Bloomberg

Maybe the stock overshot early last year on the downside, but the upside downside risk reward at currently levels is looking a tad stretched, especially when you consider the fact that the stock is trading at 21x trailing eps and 19% forward that is only expected to grow 12% on 4% yoy sales growth. Trailing P/E is at a 10 year high, while forward is very near:


U.S. economic data has been improving. Here you can see the Citi Economic Surprise Index approaching 2016 highs:


And specifically as it relates to rail stocks, Credit Suisse equity research noted this morning in a note to clients that rail volume in Q4 ‘grew 2.2% year over year, which was the first quarter of positive volume growth since 1Q15’ and modestly raised their estimates in most of the companies to reflect the uptick.

Credit Suisse Equity Research

And when I said modestly, I meant modestly, for CSX, 2017 & 2018 eps estimates went up 3.5%, based on what, one quarterly uptick?

Which brings me to my last point. Enthusiasm for economically sensitive sectors will soon have a sort of moment of truth. Q4 earnings season will provide corporate managements the opportunity to match guidance based on order visibility with the recent bout of investor confidence. But we have to wait to get a better sense of what sort of stimulus we actually get, and some stocks like CSX that have dramatically outpaced the broad market and their peers may have gone a little too far too fast, and could easily retrace a bit of their recent moves, possibly back towards its Nov 8th breakout level which is very near the stocks 100 day moving average (green line below):

CSX 1yr chart from Bloomberg

Short dated options prices have risen alongside CSX’s fairly orderly ascent in the last month. But the spread between 30 day implied volatility (the price of options – blue below) and 30 day realized volatility (how much the stock has moved – white below) has steepened, making options prices look expensive for those looking to express directional views:


So what’s the trade? The first 100 days of this administration will reveal a lot of the Trump trades like an infrastructure stimulus. If a path to higher economic growth isn’t clear, coupled with no material improvement in the economy near term, stocks like CSX, which dramatically out-performed the market and peers, could retrace a good bit of the recent move.

Trade CSX ($38.50) Buy May 38 / 33 put spread for 1.50
  • Buy to open 1 May 38 put for 2.30
  • Sell to open 1 May 33 put at 80 cents

Break-Even on May Expiration:

Profits: up to 3.50 between 36.50 and 33 with the max gain of 3.50 at 33 or lower

Losses: up to 1.50 between 36.50 & 38, with the max loss of 1.50 above 38

Rationale – This trade looks out to May, while capturing next week’s earnings event. Risk/Reward is 1.50 to make up to 3.50. If the stock were to decline on earnings itself 36 is the first obvious area of support and we’d re-assess the view if that level held. Below that and we’d be patient. If the stock rallies on earnings trade management would depend on if the move held. If it did we’d try to keep the trade from becoming to much of a loss or roll to higher strikes higher.