Hedging Ukraine's Impact on Federal Spending

 | Mar 11, 2014 | 5:30 PM EDT  | Comments
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Stock quotes in this article:

mmm

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utx

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ge

Last week in my column "Infrastructure Spending Is Gaining Traction," one of my closing comments was that the events in the Ukraine could derail President Obama's infrastructure spending push. 

In this column, I will address that issue briefly and what investors need to be cognizant of with respect to the potential impact on the capital markets.

In the 1990s, the Defense Department and Congress began the process of Base Realignment and Closure (BRAC). The BRAC was the greatest realignment of the U.S. military's global operations since the end of World War II. The prime driver of BRAC was the belief that in a post-U.S.S.R., Cold War, Berlin Wall environment, the geopolitical risks of military conflict in Europe and most of Asia had decreased sufficiently that maintaining large U.S. military contingents in these areas was an inefficient use of resources. Additionally, the risks were rising in other areas of the world and warranted the shift in focus of military operations and capability.

Most of this realignment has already been completed, with many foreign deployed military units having their home bases brought back to domestic U.S. installations and away from Europe and Asia.

The ongoing events in Ukraine and the growing tensions between China and Japan concerning the Senkaku/Diaoyu Islands are raising new concerns about the geopolitical risks to U.S. and Western interests in both areas.

The most logical, immediate action for investors to anticipate is that the recently-announced plans by Defense Secretary Chuck Hagel to downsize the Army and overall defense budget will not pass Congress. Pragmatically, the political risk to individual elected-members of Congress, regardless of party affiliation, is now too great to vote for such a measure. The prudent course of action will be to punt on the issue, leaving it to be dealt with in the future.

That will also cause the money expected to be shifted away from the military and to domestic civilian programs to not be there, forcing the administration to rely more heavily on tax changes to fund the infrastructure projects. But that's probably not politically possible.

The safest way for investors to hedge for the impact of the federal budget allocations for 2015 and beyond, regardless of how the negotiations go this summer or what happens between Russia and Ukraine or China and Japan in the immediate future is through the members of the Dow Jones Industrial Average that will benefit from either military or infrastructure spending.

The three companies that meet this hedging strategy best are 3M (MMM), General Electric (GE) and United Technologies (UTX).

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