The Worst Performing Rail Stock Of 2017: Canadian Pacific

Canadian Pacific Railway Limited (USA) CP call to fame has been due to its notoriety of being the worst performing rail stock of 2017. However, even amid this dark cloud, there is a silver lining. Given the underperformance, a sell-side analyst has deemed it worthy of an upgrade.

Loop Capital Markets made note of a steep retreat in the shares of the railroad operator from C$211 to C$190 over the last five weeks, as they have stooped lower close (within 1 percent ) to their 52-week low.

The firm, however, said the other railroad operators have not moved in sympathy, resulting in Canadian Pacific stock trading at a 15 percent discount to the group average, excluding CSX Corporation CSX, on the next 12-month consensus forward P/E.

Accordingly, the firm upgraded its rating on the shares of the company from Hold to Buy and raised its price target from C$222 to C$224.

Discount To Railroad Group Unwarranted

Analyst Rick Paterson attributed the company's discount to the rail group, primarily to weak volume growth compared to Canadian National Railway (USA) CNI. Therefore, the analyst believes Canadian Pacific shares will rebound, if its volume starts growing faster or Canadian National's growth decelerates. Additionally, the firm said the impact on Canadian Pacific's multiple is roughly the same.

"If all else fails, we think our recommendation will work as the two railroads simply begin to hit comps that are easier for CP (in Q1 2018 it will be lapping 1.8% volume growth from the prior year) and tougher for CN (lapping 9% growth in Q1)," the analyst said.

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Further, Loop Capital Markets believes Canadian National's success, amplified by its recent investor confidence, may have led investors into believing that a significant growth differential has become a permanent state of affairs and in turn a structural problem for Canadian Pacific.

However, the firm thinks the long-term growth differential between a railroad with great marketing versus one with good marketing is only 2 or 3 percent and not the 13 percent currently found between Canadian National and Canadian Pacific. Sooner or later, the firm thinks volume growth rates will largely converge.

Upward Revision To FY Guidance Likely

Meanwhile, the firm sees the Canadian Pacific's conservative earnings per share guidance for high-single-digit growth for the year as a positive, as it would need to grow its second-half earnings by merely 4.8 percent to exceed the top half of the range.

Therefore, the firm expects the company to upwardly revise its guidance either a September investor conference or on the third quarter earnings call.