Industrials Sector Rating: Marketperform
Industrials sector overview
Global manufacturing appears to be deteriorating somewhat, while U.S. manufacturing remains in expansionary territory. However, concerns about a trade war could put a damper on the group.
Market outlook for the industrials sector
Global manufacturing largely remains positive, but growth rates have slowed, with recent purchasing managers’ index readings in most major countries still in expansion territory, but slipping from their highs. However, trade issues have continued between the U.S. and China, and that could threaten the profitability of this very globally oriented sector (45% of the sector’s revenue comes from foreign sources, according to Strategas Research). However, the recent agreements between the European Union and the U.S., the United States-Mexico-Canada Agreement (USMCA), as well as the decision by China and the U.S. to at least temporarily freeze further tariff hikes and discuss freer trade, were all positive developments. While the China situation has appeared to improve recently, tariffs on EU autos are a potential, while getting the USMCA through Congress could be tougher than most investors are looking for at this point.
In the U.S., the Institute for Supply Management® (ISM®) Manufacturing survey fell modestly to 54.2 in February after rising to 56.6 on trade concerns easing in the previous month. Meanwhile, the forward-looking new order component also fell slightly following a sharp rebound, moving to 55.5 from 58.2, as manufacturers appeared to remain encouraged as they await a resolution to the China-U.S. trade dispute, but may be becoming a bit more impatient. There were hopes at the beginning of last year that fiscal stimulus would be forthcoming, but those hopes appear to be diminishing with the rancor in Washington, which has the potential to be a temporary weight on the group. This was exacerbated by the extended partial government shutdown. This may be an area where agreements between the two parties are possible following the current budget negotiations—although we aren’t holding our breath!
Overall, we have concerns but they're somewhat balanced out, which results in our relatively neutral view.
Factors that may affect the industrials sector
Positive factors for the industrials sector include:
- Potential productivity gains: Corporate balance sheets remain relatively cash-rich, which should help push management teams to invest in new, more-efficient equipment to help offset weaker productivity.
- Room for growth: Relatively low manufacturing inventories signal the possibility of a demand-inspired rebuilding phase.
Negative factors for industrials include:
- More aggressive Federal Reserve action: Should inflation start to reach concerning levels, the central bank could raise rates more aggressively, which would likely dent industrial shares.
- Trade concerns: As trade dispute rhetoric continues, the possibility still exists that a damaging trade dispute could ensue.
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