Infrastructure funds building gains

If you think the roads in your neighborhood are bad, you should try driving in Tanzania, where you might not only break an axle, but get eaten by hyenas afterwards. In the vast scheme of human infrastructure, there are plenty of opportunities for improvement outside of the U.S.

Not surprisingly, most infrastructure funds are focused overseas, and not in the U.S. President Donald J. Trump’s proposed infrastructure spending may change that focus, but if you’re betting on a big pop from infrastructure funds, much of that will come from foreign stocks.

“Most of them are global portfolios — there’s more hype about U.S. infrastructure than real activity right now,” said Morningstar analyst Tayfun Icten. If you’re looking for a boost from infrastructure stocks, these funds probably aren’t for you. They’re looking for safe companies with stable revenues — not quick growth from new construction.

Mr. Trump is still in the process of rolling out a 10-year, trillion-dollar infrastructure spending program that he promised in his address to Congress in February. “Crumbling infrastructure will be replaced with new roads, bridges, tunnels, airports and railways gleaming across our beautiful land,” Mr. Trump said. “To launch our national rebuilding, I will be asking the Congress to approve legislation that produces a $1 trillion investment in the infrastructure of the United States — financed through both public and private capital — creating millions of new jobs.”

On Monday, Mr. Trump laid out a plan to privatize air traffic control, spinning it off from the Federal Aviation Administration, which has spent more than $7.5 billion on next-generation air traffic control reforms. Mr. Trump called those efforts “a total waste of money.” More details on Mr. Trump’s infrastructure plans should be coming this week.

Wall Street analysts are skeptical on just how much money the government will lay out for infrastructure, in part because of Congressional reluctance to increase government spending. “I hope we avoid a trillion-dollar stimulus,” Senate leader Mitch McConnell said in December. The Trump budget blueprint, outlined in May, proposed $200 billion in infrastructure spending over 10 years.

That’s a far cry from the estimated $4.95 trillion needed to bring U.S. infrastructure up from its current D+ rating by the American Society of Civil Engineers to a B rating by 2025. “It’s not even enough to cover maintenance,” said Jim Corridore, analyst at CFRA research. As a result, U.S. infrastructure stocks have cooled off following an initial pop after the November election.

Still, infrastructure funds have built some healthy gains this year. The average infrastructure fund has gained 13.4%, versus 9.5% for the Standard & Poor’s 500 stock index. Part of that is because the average infrastructure fund has 51% of its assets in non-U.S. stocks, according to Morningstar. So far this year, the MSCI Europe, Australasia and Far East (EAFE) index has gained 13.1%, propelled by rising overseas markets and a falling dollar.

And there are more infrastructure plays abroad than in the U.S., said Ben Morton, portfolio manager for Cohen & Steers’ infrastructure portfolios. “In the U.S., for example, there are no publicly traded airport stocks or toll road operators,” he said. Both are relatively common in Europe and elsewhere. For example, the top holding of Lazard Global Listed Infrastructure Portfolio (GLIFX), the largest U.S. infrastructure fund, is Atlantia SpA, an Italian company that operates the Rome airport and some Italian toll roads.

A large part of the Trump proposal would rely on privatization of municipal entities, at least those that a business could reasonably expect to run at a profit. Obviously, investors can’t buy those yet because they haven’t been created, and might not be for awhile. “Public-private deals can be complicated,” Mr. Corridore said. That doesn’t mean they’re bad investments, he said. “They can be useful in getting things done that are not well run by government, such as toll roads and bridge maintenance.”

Investors who are tempted by an infrastructure fund should be cautious — not only because any boost from a government initiative could be well in the future. For one thing, many current U.S. infrastructure plays are heavily dependent on energy. “Most infrastructure plays are tied to energy, such as pipelines and turbines,” said CFRA’s Mr. Corridore. “The drop in oil prices, project delays and other trends in the industry are not that positive.”

Another popular holding among infrastructure funds, regulated utilities, have seen their prices driven up in recent years by low-volatility funds, Morningstar’s Mr. Icten said. Many utilities are selling for 25 to 28 times earnings, versus a more normal level of 12 to 14 times earnings. Furthermore, many infrastructure companies in the U.S. and abroad are sensitive to rising interest rates, and owe their climb to the recent downturn in long-term rates globally, he said.

Should another Trump initiative — corporate tax reform — pass, freight railroads would be one immediate beneficiary, since they tend to have one of the highest tax rates, Mr. Morton said. Regulated utilities, another infrastructure play, would probably get less of a benefit from a corporate tax cut, since they would have to pass those savings onto customers.

In the meantime, solid U.S. infrastructure plays are hard to find. CFRA’s Mr. Corridore likes Chicago Bridge & Iron Co. (CBI), which fell 9.9% Tuesday on an analyst downgrade and continued its plunge on Wednesday. The engineering firm’s low valuation makes it appealing, Mr. Corridore said. It’s selling for 3.9 times its estimated 12 months’ earnings. While the stock has already broken an axle, it’s unlikely to be eaten by hyenas.