this Bat: paving the way The ETF operated by Global X focuses on stocks where U.S. infrastructure investments could lead to growth.This includes industrial automation, power and grid expansion, agricultural productivity, climate change mitigation, and industrial transport and raw materials Build infrastructure such as data centers, industrial buildings, roads and bridges.
The portfolio covers a wide range of industries, some of which are clear players in various megatrends, while others may be mature or cyclical, such as steel and rail. PAVE is a passive fund tracking the Indxx U.S. Infrastructure Development Index. However, Indxx appears to offer customized indexes for fund groups such as Global X, allowing for more flexibility in portfolio composition.
PAVE began trading in March 2017 and began outperforming the S&P 500 Index (SP500) in early 2021 as its portfolio benefited The pandemic has caused disruptions in capacity, rising prices and a rush to meet demand for just about everything. This positive performance has continued into the present as it once again became value-oriented, colliding with key trends that pushed valuations higher.
Using consensus estimates, I find weighted upside potential of 8%, EPS CAGR of 4%, YE24 PE of 14.7x, and FCF conversion of 4%. Not exactly enticing numbers.
To properly assess the potential of ETFs, I analyzed 80% of the portfolio (43 stocks) based on consensus estimates. I use target price, revenue, EBITDA, net debt, and EPS estimates to generate growth, cash flow, and valuation metrics. A consensus consisting of many analysts can be biased in valuation (i.e. price targets), but they are generally better at forecasting. Much of this is based on guidance and input from the company, as well as channel inspections and experience. Given that many stocks face tough competition and the market typically looks out 6 to 12 months, I’m not considering forecasts for 2023.
My basic screen results in a less attractive portfolio, with consensus upside of 7.8%, EPS growth of 4.4%, and a relatively high valuation of 14.7x 2024.
PAVE Portfolio Weaknesses
I also found that 54% of the portfolio was in faster-growing stocks with earnings per share CAGR of over 8%. However, the 16% portfolio has an EPS CAGR of 5%, while the 10% portfolio has an EPS CAGR of -9%. To make matters worse, negative growth stocks trade at 13 times earnings, while low growth stocks trade at 19 times earnings. The portfolio may have problems continuing to outperform the SP500.
The chart below highlights the portfolio’s weaknesses. I separate and aggregate stocks into three sub-portfolios using consensus 2024 and 2025 EPS estimates.
- Paving the way 1: The compound annual growth rate of earnings per share is higher than 5%
- PAVE 2: Earnings per share CAGR rises from 1% to 5%.
- PAVE 3: The compound annual growth rate of earnings per share is 0% or negative.
The PAVE 3 segment, which consists mostly of steelmakers and Deere (DE), has weighted EPS growth of -9%, while the PAVE 2 segment has grown 5% and has a PEG of 4.2x, i.e. looks expensive. Finally, the PAVE1 portion of high-growth stocks isn’t particularly cheaper than the SP500, nor is it growing faster, based on consensus estimates.
Positive outliers include MasTec (MTZ), Cleveland-Cliffs (CLF), and Regal Rexnord (RRX), which have higher growth rates but lower valuation expectations.
From a bottom-up consensus perspective, the ETF looks expensive. As the chart shows, over 20% of the portfolio has a poor consensus on EPS growth prospects, but this has not been reflected in valuations to date. On an absolute P/E basis, PAVE is cheaper relative to the SP500 and the S&P 500 Industrials Index (SP500-20), but not relative to EPS growth.
The consensus forecast for the SP500 is for EPS growth of 12% in 2024 and EPS growth of 10% in 2025. This brings PEG down to 1.5x and PAVE to over 3x. The SP500-20’s EPS growth forecast for the next 12 months is 18.8%. Yes, we’re dealing with a wide range of variables, but in my view, this level of dispersion points to structural weaknesses in the portfolio.
PAVE’s US infrastructure theme is on track. However, the portfolio composition is insufficient as it includes more mature and cyclical materials and transportation stocks that have weak or even negative EPS growth. Additionally, valuations appear stretched compared to the broader market and industrials sectors, prompting me to think it may be difficult to see further outperformance.