The iShares U.S. Transportation ETF (BATS:IYT) is a relatively high multiple US pick, covering some of the railroad stocks as well as Uber (UBER). Railroad stocks are a mixed picture, as we covered in our last coverage, because of the union successes in forcing more free time on top of wages. Labour is a massive expense there. Uber is dealing with similar labour issues, with governments getting involved to insist some sort of driver protection at Uber, also to make Uber less competitive against local taxi lobbies. With sustained inflation likely to maintain the case for labour inflation at these companies as important bottom-line tailwinds, we don’t want to buy IYT at a high multiple.
IYT Breakdown
IYT Top Holdings (iShares.com)
IYT has quite a few holdings at 44, but there’s a significant skew towards the top two picks of Uber and Union Pacific (UNP). Together they account for 36% of the portfolio. Rail transportation in general, including UNP accounts for 26% of the portfolio. 44% of the portfolio is just Uber and the railway stocks.
The IYT PE is around 20x. This does not include the PE of Uber, which is negative as it continues to invest in new services and products, driving it into negative profitability. Expense ratios are at 0.4%, which is not unreasonable for an ETF with quite a specific sectoral mandate, less idiosyncratic than something like “healthcare”.
20x ex-Uber PE implies an earnings yield that is slightly behind the current risk-free rate, meaning that some amount of profit growth needs to be present. While freight is seeing some good news lately, the railway stocks are less certain. The picture isn’t fully bad for them, using UNP as an example. The shift away from coal is doing well for their mix. This is offsetting some of the pressures that they are experiencing in the compensation expenses, which are up due to the need to increase headcounts due to new union labour agreements as well as due to explicit increases in wages, which are going to amount to around 5% per year for the next few years. Last year they had a positive earnings effect from some real estate gains which are non-recurring. Without that, profits would have grown slightly which is impressive. While core growth is being achieved, it is complex and may not continue into the next year. They are not providing guidance.
On Uber we have similar concerns. It’s clear that in various jurisdictions, before NYC and now Minnesota, they are not going to get away with an operating model that is that different from the taxis. This diminishes the attractiveness of the stock. What is going on in particular is governments are insisting on some effective increases in pay, either explicitly or by requiring idle time compensation, like with taxis. Uber is up against a lot of forces, it’s raising its litigation reserves, and in general is needing to invest a lot of cash to keep up billings growth. It’s also complex and up against quite high leverage factors.
Bottom Line
Railway core growth isn’t too bad. Fuel surcharges were down, offset in the profits by lower fuel expenses. Mix effects are helping offset the loss of non-recurring gains from last year. But they have multiyear commitments to increase wages and are also needing more headcount. It’s not a slam dunk. Uber is also relatively complex, and its continued tech growth profile could be soured on if markets go more risk off again for whatever reason. The 20x PE for the railway stocks is not a better deal than fair. As for Uber, someone investing in this ETF may want to avoid what is a pretty orthogonal exposure to the rest of the industrial picks in the IYT, particularly as it is capital intensive in growth and still unprofitable, with further headwinds mounting from profit due to regulatory development and pressure that will punish Uber in jurisdictions where it hasn’t been punished in one way or another already. There are many better deals still than a 5% earnings yield.
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