Despite persistent weak data from the manufacturing sector — the Purchasing Manager’s Index has been below 50 for 20 of the past 21 months — many industrial stocks have shown unexpected resilience. This strength can be attributed to several secular growth drivers that are benefiting specific areas within the sector, resulting in a clear divergence in the sector, between the stronger “Haves” and the struggling “Have-Nots.”
The “Haves” are companies experiencing robust growth in orders and revenues due to long-term trends such as electrification, reshoring, infrastructure spending and aerospace. Electrification is a major growth driver, propelled by increased demand for power from artificial intelligence (AI), datacenters, and electronics for home and business. Government mandates are stimulating demand for electric vehicles, which has led to increased investment in the electric grid and improved wiring in homes, driving higher demand for related products. Reshoring of production lines is another catalyst, driven by supply chain restructuring and recent legislative initiatives, leading to a surge in U.S. manufacturing investments.
Meanwhile, infrastructure spending, supported by the 2021 Infrastructure Investment and Jobs Act and state DOT budgets, has fueled growth in U.S. highway construction. A number of initiatives in that bill are spurring construction of roads, bridges and ports around the country, not to mention additional investments in rail transportation and public safety. Finally, aerospace and defense companies have seen a benefit from rising travel demand and increased defense spending due to global military threats. Companies seeing the benefits include traditional defense contractors, airplane parts suppliers and companies that offer technology solutions for military applications.
On the other hand, the “Have-Nots” are companies that are more exposed to general manufacturing and consumer activity, with their performance closely tied to short-term economic fluctuations. These “short-cycle” companies, which include component manufacturers, distributors and consumer product suppliers, have been hurt by inventory destocking, which followed a massive restocking effort post-pandemic. Although some industries may have completed destocking, others continue to face inventory challenges, and the confidence to restock remains low due to geopolitical uncertainties, interest rates and upcoming elections.
Furthermore, companies sensitive to interest rates and private construction are under pressure, especially in parts of industrial equipment, construction and agricultural machinery. Declining demand and weaker-than-expected guidance from certain manufacturers indicate softness in heavy manufacturing verticals. However, these short-cycle firms could recover quickly once the path to interest rate cuts becomes clearer and companies gain more confidence in restocking.
How can investors navigate this complicated sector? First, understanding the landscape is crucial — being able to separate the “Haves” from the “Have-Nots,” and understanding the drivers behind the economic activity. Second, identifying companies with quality attributes can help as well, given that cash-generating companies with a high return on invested capital can typically weather economic challenges. Finally, active stock picking, with an investment manager following a proven process and focused on long-term results, may be the most important factor to finding the proper investments in an often-tricky sector.
School Bus Manufacturer Powers Up
Blue Bird Co. (BLBD), the Georgia-based school bus and commercial truck manufacturer, is one of our best investment ideas, as a leader in the alternative fuels market for buses. Demand for electric school buses (ESBs) is growing, and Blue Bird is well-positioned to benefit from that trend as well as from government incentives, such as the Clean School Bus Program, which allocates significant funding toward electrifying school bus fleets.
Additionally, the company is also benefiting from a strong backlog due to industry underproduction during the pandemic, as well as from rising prices, which are driving a large improvement in Blue Bird’s margins. As the transition to electric vehicles accelerates, investing in Blue Bird aligns with the broader push toward sustainable infrastructure, providing exposure to a high-growth, innovative industry poised for long-term success.
Aggregates and Cement Deliver Concrete Results
Summit Materials (SUM) is a construction materials company, focused on supplying aggregates, cement and ready-mix concrete. The company’s footprint in each step of the value chain creates a competitive advantage, helping to control key cost inputs and to ensure supply chain efficiency. Pricing for aggregates and cement has consistently increased, driving strong margin growth at the company. Moreover, with the recent uptick in state and federal infrastructure budgets, Summit is well-positioned to capitalize on increased demand for construction materials, especially in highways, roads and other public infrastructure projects.
Finally, Summit’s recent acquisition of Argos USA dramatically boosts its cement exposure in a capacity-constrained U.S. market. It also provides significant margin improvement opportunities with the assets acquired.
Tech-Driven Defense Contractor Provides Security
The defense sector has been leaning into technology for the better part of three decades now, and CACI International (CACI) is one of the more compelling companies in the sector. The company’s expertise in cybersecurity, data analytics and intelligence solutions positions it to capitalize on long-term trends in digital transformation and security within the defense sector.
The company’s extensive contracts with government entities, including multi-year, high-value deals, provide stable, recurring revenue streams. Its focus on innovation, particularly in areas like artificial intelligence, signals continued growth potential as governments prioritize modernizing their defense capabilities.
