Build Up Your Portfolio With These Infrastructure Stocks

In Washington State, a bridge considered functionally obsolete collapses when an 18-wheeler hit a 60-year-old overhead beam, sending two cars sliding into the frigid river below. On the opposite side of the country, just a few blocks from the White House, a massive sinkhole opens up over a sewer line built in 1897, creating a nightmare for already harried commuters. And in Dallas, a massive water main break on a 30-year-old line turns one street into a wave pool, submerging nearby cars.

These incidents, which happened within a matter of months this year, are far from isolated. They're indicative of America's crumbling infrastructure -- a system of roads, bridges, water mains, sewer lines and electric grids so desperately in need of replacement or repair that an engineering group estimates that it will cost the nation $3.6 trillion by 2020 to get it up to snuff.

And lacking or faulty infrastructure is not just a domestic problem; it's worse overseas. At least 780 million people lack access to safe drinking water, and 2.5 billion lack improved sanitation facilities, according to the World Health Organization. Some four billion people worldwide have no modern communication service — cell or landline.

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But it's not all bad news, at least if you're an investor. With all this need, a vast array of companies that provide either the equipment or the skill to build roads, bridges and water lines and to provide telecommunications services are poised to profit. To be sure, government budgets are tight, but the cost of deteriorating infrastructure is so great that treasurers in cities, states and nations around the world are reluctantly pulling out their checkbooks.

Consider that deteriorating roads cost the U.S. motorists $80 billion annually and cause drivers to waste about 4.2 billion gallons of gasoline per year according to TRIP, a transportation research group. Neglected roads are a significant factor in about one-third of traffic fatalities. And, according to the American Society of Civil Engineers, one out of every nine of the nation's 607,380 bridges are structurally deficient. Estimated cost of repair: $76 billion.

"Without good infrastructure, countries don't have a chance. They lose global business," says Michael Halloran, a strategy analyst for Janney Montgomery Scott.

Still, investors must pick their targets carefully. Here are eight companies that appear to be good bets.

Roads and Bridges

Building roads and bridges takes a lot of heavy equipment, and that's exactly what Caterpillar (symbol CAT) makes. Whether a project needs backhoes, excavators, pavers or the articulated trucks to get asphalt and other building materials from one location to another, the Peoria, Ill., manufacturer is the industry leader both in the U.S. and abroad.

But Cat isn't just about construction. Disappointing second-quarter results, released July 24, showed that the company is battling headwinds in its mining business and is suffering from adverse currency exchange rates. As a result, Caterpillar lowered its earnings estimate for 2013, and its stock fell 2.4%, to $83.44. At that price, it sells for 13 times estimated 2013 earnings. (All prices are through July 24.)

Not all the news was bad. In announcing the diminished expectations for this year, Cat executives said part of the problem is that dealer inventories are low and are likely to stay low for the rest of the year. But that is expected to boost 2014 results. Meanwhile, Cat recently hiked its dividend 13%, to an annual rate of $2.40. The stock now yields an above-average 2.9%.

If you've got a complex building project — such as repairing a crumbling bridge or building a road through difficult terrain -- there's a good chance you'll look up the engineers at Fluor (FLR), the giant engineering and construction company. When it comes to building or repairing infrastructure, there isn't much the Irving, Tex., outfit can't do. Earlier this year, the company won contracts to design a clean-fuel project in South Africa, a chemical plant in Louisiana and to build bridges in Qatar. Analysts expect Fluor's earnings to grow at a 12% pace over the next several years. At $62.29, the stock sells for 15 times projected 2013 earnings.

Water

Demand for water and wastewater pumps, testing equipment and valves is fueling new business at Xylem (XYL), a White Plains, N.Y., water-technology company. Among recently struck deals were a big water disinfection project in Sweden and a waste-pumping project in Beijing.

Xylem, known for providing pumps that helped clean tunnels flooded by Hurricane Sandy and technology used by NASA to look for water on the moon, is a 2011 spinoff from manufacturing titan ITT Corp. Tight municipal budgets in the U.S. hamper Xylem, but nearly two-thirds of its business emanates from overseas. Growth in emerging markets is a bright spot, says Wedbush analyst David Rose, who is bullish on the company's long-term prospects. The stock, at $28.59, trades at 16 times forecasted 2013 profits and yields 1.7%.

Operating in 56 countries around the world, Flowserve (FLS) promises an affordable and sustainable source of clean water. The company's earnings growth has been unspectacular in recent years, but analysts are now predicting that Flowserve's profits will spurt by an average of 14% annually over the next several years. The stock, at $56.05, sells for 17 times projected 2013 earnings.

Flowserve, like Fluor based in Irving, should benefit from a trend toward reuse of municipal water, says S&P Capital IQ analyst Stewart Scharf. The manufacturer of flow-control equipment, such as pumps and valves, recently split its stock three for one. Although stock splits don't have any mathematical impact on the value of a company or an investment, they're widely considered a sign of management's long-term optimism.

Telecommunications

American Tower (AMT) is one of the world's largest providers of telecommunications towers, with some 55,000 broadcast and wireless sites. The company's business of leasing bandwidth to the rapidly growing cell phone industry, as well as to cable, radio and television broadcasters, is fueling brisk revenue growth and is expected to lead to double-digit earnings growth for at least the next five years.

However, American Tower, which is structured as a real estate investment trust, is pricey. At $73.94, the stock sells for 36 times estimated 2013 earnings. But UBS analyst Batya Levi still likes the stock, which she expects to reach $93 in a year. Analysts expect American Tower to generate average annual earnings growth of 27% over the next few years.

Energy

The need to drill for oil in deep waters all over the world is the infrastructure challenge that has Morningstar analyst Steven Ellis enthusiastically recommending three energy-services companies. Demand for oil remains strong, particularly in emerging markets, but land-based wells are maturing and delivering less. That gives an edge to the companies capable of providing the specialized products and services for offshore drilling.

Shares in Halliburton (HAL) slumped this spring after the Houston company announced that it would set aside $637 million in reserves for litigation related to the 2010 Deepwater Horizon oil spill in the Gulf of Mexico. Halliburton was among several service providers sued by BP for clean-up costs in the wake of the disaster. However, that may have steered the stock into bargain territory, says Ellis. At $44.82, it sells for 14 times 2013 estimated earnings, a nice price for a company that analysts think will produce earnings growth of 20% annually over the next few years. Ellis thinks the stock is worth $55.

He also recommends Cameron International (CAM), which makes pressure valves and other drilling equipment. It, too, was sued by BP, settling for $250 million in 2011. Cameron's stock, at $63.57, also looks attractive, selling for 17 times projected 2013 earnings. Meanwhile, analysts forecast long-term earnings growth of 19% a year. Ellis pegs the stock's value at $75.

Schlumberger (SLB), one of the world's leading energy-services company, benefits from the same trends. At $82.85, the stock sells for 18 times projected 2013 earnings — slightly greater than the company's projected long-term earnings-growth rate. However, unlike the others, which pay negligible dividends, Schlumberger's $1.25 annual payout provides a 1.5% yield. Ellis thinks the stock is worth $87.

Rebecca McClay is a financial journalist covering daily stock and market movements.