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http://www.nytimes.com/2012/04/27/science/study-sheds-light-on-how-pigeons-navigate-by-magnetic-field.html?_r=1&emc=eta1

Some excerpts: 

"Birds are famously good navigators. Some migrate thousands of miles, flying day and night, even when the stars are obscured. And for decades, scientists have known that one navigational skill they employ is an ability to detect variations in the earth’s magnetic field. How this magnetic sense works, however, has been frustratingly difficult to figure out."

"Navigating by magnetism includes several steps. Birds have to have a way to detect a magnetic field, and some part of the brain has to register that information; it seems likely that another part of the brain then compares the incoming information to a stored map."

“It’s a stunning piece of work,” David Keays of the Institute of Molecular Pathology in Vienna wrote in an e-mail. “Wu and Dickman have found cells in the pigeon brain that are tuned to specific directions of the magnetic field.”

As Dr. Lohmann said, the discovery “will no doubt inspire much additional work in the future.”