Don't Chase the Infrastructure Boom

We all smirk at investment bubbles after they have burst. But buying into a bubble at the start can make you rich. We have seen the Internet bubble of the late '90s, and the bank stock bubble as the Fed turned on the spigot in 2001. This, of course, led to the real estate bubble that helped fuel the commodity bubble.

So where is the next bubble? In my opinion, it already formed in the infrastructure stocks. The stocks went through the roof, and even though they have traded off somewhat, they still appear richly valued.

It is no secret that there is a growing need to fix the nation's and the world's infrastructure. We see problems almost daily with electrical grids, water plants and highways and bridges. The spending will be enormous and will last for several decades.

Macquarie Infrastructure Company (MIC - commentary - Cramer's Take) estimates that global infra spending will reach $30 trillion in the next two decades. The increasing popularity of the group has made for a wild rise -- earlier this year, amid growing fears of a global recession, the stocks got pummeled.

When they began to release solid first-quarter earnings, they exploded to the upside with huge moves, as much as 15% a day in the case of industry leaders like Fluor (FLR - commentary - Cramer's Take) and Jacobs Engineering (JEC - commentary - Cramer's Take). Although the prospects for earnings growth are indeed solid, my question, as always -- Are you overpaying for the anticipation of growth?

Right now, I think you are.

Business is good and will get better in the long run, but the economy is weak, and I believe it will get weaker in the next two quarters. Delayed spending on large projects or cost overruns on existing ones could cause a rapid selloff in these stocks.

Look at Fluor, for example, which operates in most of the key infrastructure markets, including oil and gas, power, government contracts and global services. The quarter that ended in March was impressive, with gains in all segments except government. The backlog was up 33% to $33.5 billion.

Much was also made of the company's new multi-billion-dollar contract awards. The trouble is, almost all of the awards came from the oil and gas industry. If oil prices decline, then so will the work associated with that industry.

The shares are priced for perfection. At 25 times earnings and almost 6 times book value for a company with consensus five-year growth estimates of just above 15%, a single earnings miss could cause the stock to fall sharply. Contrary to most of Wall Street, where most analysts adore the stock, I think it is a sell. If it gets back to the 52-week highs of $87, it is a short.

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At the time of publication, Melvin had no positions in the stocks mentioned, although positions may change at any time.

Tim Melvin is a writer from Stevensville, Maryland, who spent 20 years a stockbroker, the last 15 as a Vice President of Investments with a regional firm in the Mid Atlantic area. Under no circumstances does the information in this column represent a recommendation to buy or sell stocks. Melvin appreciates your feedback; click here to send him an email.