A Smart Play on a "V" Recovery

12/22/2009 1:00 pm EST


Tobin Smith

Founder and Chief Research Analyst, Transformity Research LLC

Tobin Smith and Joshua Levine of ChangeWave Research find an infrastructure company they say is poised to profit from a stronger-than-expected economic recovery.

Could a V-shaped recovery be in the cards? Some signals do point to robust GDP growth in 2010.

One of the very few economic forecasters we respect is the Economic Cycle Research Institute (ECRI). According to our friends there, the economy could be getting ready to roar. The short conclusion: Growth rates in US gross domestic product could surpass an annualized 7%.

This is obviously far, far above the consensus thinking. But with every forecaster looking for 2% [gross domestic product] growth, we would be happy to take the "other side" of that trade!

ECRI's Weekly Leading Index reached an all-time high in early October, based on data going back to 1968.

[And] spreads between the yields for the highest-quality bonds, rated Aaa, and the lowest-quality ones rated Baa (the lowest rank within the investment-grade category), indicate investor appetite for risky assets.

Higher spreads indicate lower appetite for risk, and vice versa. When spreads narrow more than 0.4%, economic growth rates one and two quarters later have historically exceeded 7%.

We’ve had such a dramatic drop in yield spreads recently that the jump in GDP growth should be truly massive—so, don't rule out double-digit gains this quarter and next.

ECRI has a great record at predicting both the beginning and end of recessions. And the folks at ECRI believe this will be a classic V-shaped recovery.

[Also,] the most recent macroeconomic surveys from the ChangeWave Alliance show that consumer spending and corporate demand continue to make gains despite some hefty crosswinds.

In the ChangeWave Alliance Research Network's latest infrastructure industry survey, Emcor Group (NYSE: EME) registered [some of the strongest] momentum of any company. Alliance respondents pointed to EME as one of the top companies in electricity and Smart Grid infrastructure.

As a leader in mechanical and electrical construction, EME [can] quickly mobilize for a wide range of projects, particularly those focused on electricity and the grid. These include stringing transmission lines, installing control systems, and retrofitting and building schools with new lighting and energy systems.

The stimulus funds for Smart Grid and related projects will make their biggest impact in [the second and third quarters] of 2010—so, this is the right time to get positioned in a company that will win the awards and do the work.

In October, Emcor's management said that it had begun to see some traction in work stemming from government stimulus spending, [and] it expects the orders to grow.

In the most recent quarter, Emcor reported record gross and operating margins. This enabled the company to further strengthen what was already a highly liquid balance sheet.

Best of all, EME's shares are fundamentally dirt cheap right now. EME currently sells at [$27,] only 13x the forecast for depressed 2009 earnings and one-third annual revenue—[or] an estimated four times 2011 earnings.

It's a no-brainer! Build a position in EME below our $28 Buy Under. Our 12-month target is $40.

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