Sector Focus: Infrastructure

I always like to review earlier thoughts to see what success or mistakes I made. Hopefully this process helps one to improve going forward.

When the fund was launched in early August, one of my focus groups was infrastructure companies - with a preference for those of a more global nature. In fact in the early days, my #1 holding was McDermott (MDR) and my #3 holding was Foster Wheeler (FWLT) . After the last round of earnings in August, I was convinced this group was only going to accelerate and wrote about it briefly here. The valuations in these 2 names (upper teens on 07 estimates) lagged the peer group (mid to upper 20s) so I went overweight those names, along with Perini (PCR). Here is a quick and dirty look at the valuation comparisons from an entry I did in August after most companies had reported.

I had built a basket of 6 other names (every name in the list below aside from Fluor (FLR) in fact). [However, I did sell URS (URS) in mid August since its earnings did not impress me in comparison to MDR/FWLT]. So to call me a bull, with 7-8 of 50 or so positions, in 1 sector was an understatement. This group was completely trashed in mid August as I believe many of the hedge funds doing forced liquidations must of been quite long this group, and forced to sell to raise cash - interestingly I also remember the agriculture and mining stocks getting trashed the heaviest at that time as well .

However, my general nervousness of the market giving back some of its gains (off of the dramatic fall in mid August), led me to lighten up in this group much too early. In fact I can remember being a bit frustrated since the entire group ramped up off the surprise Fed discount rate cut in August, except for my #1 holding McDermott. Then finally it too, ramped, and boy did it ever - in fact it has had the best price performance out of the entire group (note the below figures are off Aug 3rd, now the trough in valuations in mid August pre-helicopters)


So as we can see, another group where the rising tide lifting all boats. Aside from lightening up too early due to general market nervousness, I also closed out AECOM Technology (ACM) in late August to reduce the # of holdings in the fund, and to focus on names with better valuations. This also came back to bite me, as Cramer did yet another pump last month and the stock skyrocketed. So while selling almost anything of late has been a 'mistake' due to Uncle Ben and his squadron of helicopters, this sector in particular really bit my hand. In 'normal' markets, stocks actually retrace gains every so often (14 days up, 3 hours down, 17 days up, 5 hours down is not really 'normal'). But since August 06, its essentially been straight up aside from two 3-5 week periods. Therefore, hard to lighten up on anything, expecting a pullback.

Going forward I plan to treat this group like I do the agriculture names - "must haves" as their backlogs are growing, they are relatively small companies ($5-$15 Billion in market cap) - small relative to the number of hedgies and mutual funds which will be wanting to own them in the next few years - and it just is a comprehensive play on the (a) global energy infrastructure buildout (b) developing countries growth (c) eventual need for US infrastructure upgrades. So you get 3 for 1; 2 for 1 now and hopefully when political will comes around point (c) as well. Now all of these companies are not identical, and have different focus areas but as the chart shows you could literally throw a dart and pick 3 and do well.

I don't plan to chase the names at this level because when I was first buying they were valued in upper teens to mid 20s on 07 estimates and mid teens to lower 20s on 08 estimates. Obviously those valuations have gone up tremendously in a short time, but with earnings projections also going up, that will offset some of the valuation increases. So when the market (one day) actually pulls back for more than 3 hours or heck goes down 2 days in a row (the horror!), we will have some opportunities to buy... hopefully at better prices than we do now. Or perhaps one name in the group will somehow miss (although I am not counting on it) and market participants will find this to be an excuse to sell some of the other names.

Despite having many names in this group in the fund, as a sector weighting its far below what I want.

SA/SS

Long McDermott International, Foster Wheeler, Jacobs Engineering, KBR, Perini in fund; no personal positions