Have been reading in the papers about the mess on Wall Street and the precarious position of some of the largest financial institutions. While the industry as a whole seems on very solid footing, could there be some effects that trickle down and slow the seeming prosperity that the industry is enjoying now?
Since many reports state that credit in general will be harder & more expensive to obtain, that would seem to apply to the industry as well. However, the recent prosperity may make it an exception, or limit those results. Also, it has an awful lot of fixed assets, as opposed to emphemeral “paper” assets.
Two specific observations:
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Rolling stock financing - in the past, often known as “equipment trusts” (now an obsolete term and method) - has always enjoyed very favorable terms, almost regardless of the railroad company’s credit status. That is due to the lender’s ability to immediately repossess the equipment in the event of a default - that lender’s right is explicity preserved in the Bankruptcy Act against the usual “automatic stay” provision. Further, the equipment’s mobility and commonality - gauge, couplers, and other standardized features, etc. - make it uncommonly easy to resell or re-lease it to another railroad which could probably use it just as well. I don’t see that changing a lot - maybe even more favored now, since it’s been around for 100+ years - unlike the more recent and trendy, flash-in-the-pan financial instruments like “derivatives” . . . (heavy sarcasm).
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Electrification, sadly, now has a much tougher economic row to hoe. The same considerations as for equipment above pretty much cut the other way for it. If some railroad had seriously considered it during the last 8 - 10 years when credit was comparatively easy and cheap to obtain, the huge capital requirements might have been surmountable. Now, I don’t see it happening.
Nevertheless, some sharp and visionary CEOs and COOs should start doing the studies, preparing the plans, obtaining the permits, and doing all of the comparatively small amount but still necessary and worse, delay-inducing preparatory work for that day
I think the Railroads got going without a Wall Street way back in the 1800’s and I think they can survive just fine. I think Wall Street provided a Railroad or two with a fairground to play in while providing a means to really big stash of cash to build.
If Wall Street did fail today and vanished, it will basically clear out alot of problems that is holding from moving forward. It aint gonna hurt the railroad. Watch out for the California Tier series restrictions in the post 2010 desiel engines… that will bite harder than wall street will.
What goes up must come down eventually.
If I was a railroad, I would like to have the choo choos bought and paid for in full. Not leased, not borrowed, not rented out for hour power none of that. Then I would like to be able to move the trains that need to move today for money today.
Those that get up and start rolling without having to raise cash to do it are in a good position. If you had to borrow money to fill the choo choo before the day’s work then you are not doing so good yah?
I tend to agree with Paul on this. Railroads are not, as a group, particularly flashy performers on Wall Street. This cuts both ways – you are unlikely to get rich quick buying and selling railroad stock, as it doesn’t move all that far all that fast usually (check the history of the Class Is to see what I mean). On the other hand, you aren’t likely to lose your shirt when the latest financial fad goes foop, either (who was the evil genius who thought up derivatives, anyway?!)
The problem will come in raising capital for either expansion of capacity or electrification (Paul: you are an optimist, aren’t you?!). It appears that at least some of the major capacity expansions (Sunset, Transcon, Adirondack/Lake Champlain, CN/EJ&E purchase) are already pretty solidly financed, but new ones may be a problem. This could be even more of a problem if the accident in California recently causes a knee-jerk legislative reaction requiring installation of some form of PTC everywhere right now; this would be very expensive, particularly since it involves still pretty well unproven technology (which means, bottom line, that everything would have to be done over again in a few years).
Derivatives have been around for a very long time. Commodity futures of all sorts (a type of derivative) have been traded on the Chicago Board of Trade since some time in the 19th Century and probably earlier on other exchanges.
I don’t have a problem with commodity futures, or “hedging” of fuel prices and purchases (pretty much the same thing) because they are based on otherwise pre-existing economic & real-world risks and solve a real economic problem - allocation, sharing, and “insuring” (as it were- it technically isn’t, I know) against those risks.
But the “credit default swaps” and the “auction-rate securities” don’t seem the same. Even if they technically meet the same criteria that I noted just above, they feel pretty much like an artificial, man-made created risk - the “moral hazard” concept, anyone ? It may be just because they address and provide for risks at a couple levels higher and more abstract than I comprehend at the moment. But what they’ve amounted to is a complicated fragile house of cards that while they seemed to stand up find in calm, ideal conditions, weren’t solid or firm enough to withstand an correlation of adverse conditions - no “defensive secondary”, as it were, or redundancy - too much inefficiency in that, I suppose. So what’s happening instead is what we structural engineers call a “progressive collapse” - lay people use the “row of domnoes falling” analogy instead. When the dust settles a few years from now, it will be interesting to see if this was only a “zero-sum” game after all - if all the money that was made as “profits” was the same money that was lost by another participant (or maybe even more when the “transactional costs” - broker’s, legal, accounting, and underwriter’s fees, etc. - are included).
Some furth
I’m sure the choo-choo industry will survive this latest financial, self-caused fiasco, BUT there will have to be some new changes in the rail industry, new locomotive thinking(totally) along with designing new cars, new ideas and really pour some big bucks into the industry, railroads around the world are finding trains the only way to move stuff, maybe here in North America we had better take notice, why doesn’t the rail system receive subsidies like the highways do???
Oh my word. Now you have opened the can of worms…
You could go with ‘real cost pricing’ and it’s political dynamite. You can (pick one, and only one) price all modes of transportation to reflect the real costs (in highways, this would involve a tremendous increase in the fuel taxes to reflect what the government really spends; barges and ships, somewhat less – possibly a toll system on harbours and locks?); in aviation I’m not sure how you get cost recovery – charges for the air traffic control system (lots of countries do)? Increased fuel tax? Increased airport landing fees? (I’d go for the fuel tax, but that’s just me). The highway trust fund is the elephant in the room, and I can’t imagine a politician voting to increase the Fed’s bite from $0.49 (as I recall) to $4.90 (which might be more like the real cost).
Or you could go with a Federal subsidy – but a) the Federal subsidy for the highways is a joke (or the highways wouldn’t be falling apart) and b) not sure I really want the Feds building my railroads… effectively…
I’ll pick real cost pricing for all modes of transportation – but then, I’m not a politician!
Paul:
Have you read Roger Lowenstine’s When Genius Failed? It is a very interesting look at the failure of Long Term Capital in 1998. I read it just after the collapse of Bear Stearns earlier this year and interestingly many of the same charactors and methods were in use 10 years later.
Wall Street has an ability to develop products (financial engineering) which are very difficult to understand, unless you are within their fraternity. I am not and while finding their profession interesting, it is a bit scary also.
Credit default swaps (CDS) are not that radical, when used to minimize risk. For example you can basically “insure” bonds you have purchased by paying regular CDS premiums which will then reimburse you in case of a “credit event” such as bankruptcy, default, or even restructuring. When you think about it, FDIC insurance is a form of CDS, with the premium being paid by the banks, or actually by us in the form of reduced interest rates.
What appears to have gone wrong is either the use of CDS as speculation on a company’s credit worthiness, without any backing security such as a bond or the inability to assign risk premiums to the writing of the CDS. I believe both are occuring. The later is no doubt based on the CDO (collaterialized debt obligations) written in the past few years which were loaded with sub prime and Alt A mortgages. These were bad cases of financial engineering on Wall Street. CDO’s obviously (now) couldnt be assigned a proper risk premium nor could they properly be valued, hence the huge writedowns the past 15 months.
So, how does this affect the railroads? One would think the rails, if they can maintain their pricing power and generate sufficient cash flows to invest in future needs will be very attractive customers of credit issuers. The credit market has tightened, almost to the point of it being a major problem. The Fed keeps adding liq
Don’t worry guys it seems that a certain cowboy is riding in with taxpayer money to bail out big business again.
It’s already happened again this time putting dear old Uncle sam into the business.
What happens when Uncle Sam fails. Who is going to bail HIM out?
With Canadian Pacific being the smallest of the big 6, especially in revenues, it will be the CP that will be the most effected in trying to borrow for future projects. CP also has the most expensive project on the horizon, expanding DME into the coal fields. I’d say the troubles in Wall Street would increase the chances of CP buying the ICE and DME, and not moving into the PRB.
CN still has that 60% operating ratio, so they don’t have to look for financing.
Yep… you should be nervous. As more people loose there job its only gonna get worse. Think about how many people there are that still have no clue as to whats going on. Oil is what got the ball rolling. Bad times are only getting started.
And You and I will bear the costs. By the way, the Clinton administration started this by appointing Franklin Raines as head of Fannie Mae. He personally gave himself $100,000,000 before being canned. In addition he forced banks to approve the subprime loans or face stiff penalties for not giving people who can not pay their mortgages the money. He also set up Countrywide as the lender of choice. Once the risk was removed the speculators jumped in and the housing bubble started. The rest is history.
The Wall Street Woes will affect the industry albeit indirectly. I have my retirement savings tied up in CP and CN stock and I’m not worried. Both companies are strong performers. As the stocks go down I’m going to use this as a buying opportunity.
Yes, and a big part of the politcal motivation came from pressure from the affordable housing (socialized housing) lobby. Through the Community Reinvestment Act, they pressured lenders to make loans to underqualified borrowers or else stand accused of discrimation. Then, because lenders could not affort to take the risk, they structured Freddie and Fannie to absorb the risk from the lenders. Now the chickens have all come home to roost, and the ones responsible are blaming the lenders for causing the whole problem by predatory lending.
Government sowed the seeds of this housing crisis. It is a red herring to blame it on Wall Street. This has all started to come into focus only during the last couple weeks. What is needed is a criminal investigation into the dealings of Freddie and Fannie.
Ulrich:
Conventional wisdom is to have no more than 4% of your assets tied up in a single company’s stock. As a CN shareholder, I have been happy with performance over the years, but still the risk is greater to have a large portion in a couple of stocks.
ed
After reading these posts, I was reminded how JP Morgan had to bail out the U.S on two occasions. I was reading some statistics that said if every earmark was eleiminated from every bill, it would still take one hundred tears to bring the budget back into balance. I wonder what impact this will all have on container traffic sooner than later…as production levels here are down, much of the U.S manufacturing has been moved offshore…if the consumer at large cant afford new goods, what will this do to import traffic. I suppose what I am thinking of is that the economic crisis may impact railroading within a larger spectrum…any thoughts?
…Ndbprr…I would think we would {and should}, be keeping raw politics out of this discussion. As I’m sure you know, the amunition can come from both sides regarding the subject of the free falling of our “markets”, and how we got into this, etc…
It’s a sure way to get it “locked” and bad feelings between members.
As for Wall Street Woes effecting the RR industry…My opinion, no one will be exempt. If we can get it stopped and steadied soon, perhaps not too bad…{bad enough for much of the economy}, but if not…how would the RR industry escape going into the tank as much of the business activity will be doing.
I think you’ve got a good point there, Dale, although I’d like to think that the PRB thing will get done anyway even if not right away. I think the potential is too good to turn down.
What I would be more concerned with would be issues such as capacity expansion. Certainly the railroads can’t do the work entirely by themselves but I’m wondering if there might be smaller projects that get put on the back burner because of all this stuff.