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Infrastructure: Go small or go home Add to ...

With consumer spending, capital investment and net exports expected to be soft over the next few years, U.S. gross domestic product has only one leg to stand on: government spending. But can you make money from it?

According to Richard Bernstein, chief investment strategist at Merrill Lynch, government spending was just 10 per cent of GDP during the Great Depression, rising to 45 per cent during the Second World War. In the post-war years, it has bounced between 15 per cent and 25 per cent of GDP, and is currently sitting at about 20 per cent - but Mr. Bernstein believes it could soon hit the 1984 post-war peak.

Investing in infrastructure is the easiest way to tap into this trend, but there are a few problems with this strategy. First of all, everyone knows about it. Secondly, although the larger engineering and construction companies will benefit from a boost to infrastructure spending, they're also hurting from a downturn in commodity prices, which has put many construction plans on hold.

However, Mr. Bernstein noted that small and mid-cap infrastructure companies have stronger ties to water and highway infrastructure projects, which means that they should benefit more from rising government spending than their large counterparts. They also have reasonable valuations, trading at an average of 15-times estimated earnings, or a mere 10 per cent premium to the over-all small-cap stock market valuation.

"If these companies' earnings remain relatively stable or perhaps accelerate, then these valuations could prove quite attractive," Mr. Bernstein said in a note. Sorry, no names were mentioned.

 

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