Investors green-light infrastructure trade, but expect road bumps

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Traders work on the floor of the New York Stock Exchange (NYSE) in New York, U.S., December 13, 2017. REUTERS/Brendan McDermid
Traders
work on the floor of the NYSE in New York

Thomson Reuters

By Lewis Krauskopf

NEW YORK (Reuters) – Volatility awaits shares of U.S.
construction, engineering, building materials and other companies
tied to infrastructure spending, but steel-nerved investors could
be poised for gains if they weather a few bumps.

The stocks are set to be in focus in the coming weeks as
President Donald Trump seeks legislation geared at overhauling
the country’s aging roads, bridges and other infrastructure,
fresh off passage of a tax reform bill by his Republican party.

A bipartisan group of U.S. senators met with administration
officials this week to discuss legislation to spend $1 trillion
to improve infrastructure.

An infusion of federal spending is expected to boost
infrastructure-sensitive companies, but the stocks could see a
rocky performance as a bill maneuvers through Congress and
details of any legislation emerge.

Improving the country’s infrastructure, which last year was given
a failing grade by the American Society of Civil Engineers, has
broad appeal.

Still, while some Democrats want such a bill, political
differences may undermine the effort and affect the amount of
private sector investment.

Regardless of federal legislation, however, investors and
analysts see a favorable climate for such stocks, including the
need for an upgrade of national infrastructure, an expected spike
in earnings for many companies this year, and positive economic
trends that support investment in big projects.

“There is money flowing in this area even if you don’t get the
big federal one,” said Walter Todd, chief investment officer at
Greenwood Capital Associates in Greenwood, South Carolina. “That
would just be icing on the cake if that happened and would really
flow through to these stocks.”

INFRASTRUCTURE STOCKS SWING

Todd says his firm is overweight infrastructure-related names,
including owning civil contractor Granite Construction Inc,
building materials companies Eagle Materials Inc and US Concrete
Inc and steel company Nucor Corp.

Those shares and other construction-related names soared in the
immediate aftermath of Trump’s November 2016 election, spurred by
his campaign vow to spend on infrastructure.

But while the benchmark S&P 500 stock index has been on a
steady ascent since Trump’s election, construction-related stocks
in particular have endured a rollercoaster ride, whipsawed in
part last year by uncertainty over Trump’s agenda.

Even with outsized gains over the past two months, the
infrastructure trade has posted lukewarm returns since just after
Trump’s win.

For example, since early December 2016, while the S&P 500 has
surged more than 22 percent, the S&P 1500 construction and
engineering index has climbed 9 percent, and the S&P 1500
steel index and the S&P 1500 construction materials group
have each climbed about 5 percent.

“From a year-over-year standpoint, a lot of these names have not
really done anything,” Todd said.

At this relatively late point in the economic recovery, customers
should be more comfortable making capital spending decisions on
projects, according to analysts.

‘LATE-CYCLE PLAY’

Engineering and construction companies “are a late-cycle
industrial play, so we have just started to see the juice kick in
for a lot of them,” said Tahira Afzal, managing director at
KeyBanc Capital Markets.

“Even without an infrastructure stimulus or infrastructure bill,
the next two years should be years in which the sector
outperforms.”

Earnings for S&P 1500 engineering and construction (E&C)
companies overall are projected to grow 27 percent in 2018, while
construction materials companies could see a 32 percent jump,
according to Thomson Reuters data. That compares to a estimated
13.9 percent increase for the S&P 500, according to Thomson
Reuters I/B/E/S.

“The market is trading off of near-record earnings and the
E&C companies aren’t at those record earnings yet as a
group,” said John Rogers, founder of independent engineering and
construction consulting firm JBR Advisory, LLC in Portland,
Oregon.

Some optimism over an infrastructure bill may already be
reflected in stock values. For example, Fluor and Jacobs
Engineering shares have climbed 28 percent and 18 percent
respectively, since the start of November, while U.S. Steel
shares have jumped more than 50 percent.

While other factors could be fueling the gains, such as the
tax-cut legislation or global economic momentum, these shares
could pull back if the federal infrastructure package
disappoints.

“You really have to take a longer-term perspective and just
realize that if something does happen in Washington there will be
a lot of two-steps-forward, one-step-back,” said Eric Marshall,
portfolio manager at Dallas-based Hodges Capital Management,
which owns building materials stocks as well as equipment rental
company United Rentals Inc and contractor Primoris Services Corp.

“You can make a multi-year argument that there is pent-up demand
for things like waterworks and roads and bridges and highways,”
Marshall said.

(Editing by Alden Bentley and Bernadette Baum)

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