The industrials sector forms the backbone of the physical economy. From Boeing jets to Caterpillar excavators, industrial companies build the machines and infrastructure that drive economic growth. This sector is highly cyclical and serves as a bellwether for the broader economy. This guide will teach you how to analyze industrial stocks.
What is the Industrials Sector?
The industrials sector includes companies that manufacture goods used in construction, manufacturing, and transportation. This encompasses aerospace and defense, machinery, transportation services, and professional services. Industrials are sensitive to economic cycles and capital spending trends.
Key fact: The industrials sector represents approximately 8% of the S&P 500. Industrial stocks often lead economic recoveries as businesses increase capital spending.
Major Subsectors in Industrials
1. Aerospace and Defense
Aerospace companies manufacture commercial aircraft, military equipment, and space systems. Defense contractors have stable government contracts while commercial aerospace is more cyclical.
- Commercial Aerospace: Boeing, Airbus, Spirit AeroSystems
- Defense: Lockheed Martin, Raytheon, Northrop Grumman, General Dynamics
- Diversified: Honeywell, General Electric Aerospace
2. Machinery and Equipment
Machinery companies produce equipment for construction, agriculture, and manufacturing. These stocks are highly sensitive to economic cycles.
- Heavy Equipment: Caterpillar, Deere & Company, PACCAR
- Industrial Automation: Rockwell Automation, Emerson Electric, Parker Hannifin
- HVAC: Carrier Global, Trane Technologies
3. Transportation
Transportation companies move goods and people. This includes railroads, airlines, trucking, and logistics providers.
- Railroads: Union Pacific, CSX, Norfolk Southern
- Airlines: Delta Air Lines, United Airlines, Southwest Airlines
- Logistics: UPS, FedEx, XPO Logistics
- Trucking: J.B. Hunt, Old Dominion Freight Line
4. Professional Services
Professional services companies provide consulting, staffing, and business services to other companies.
- Consulting: Accenture, Jacobs Engineering
- Staffing: Robert Half, ManpowerGroup
- Waste Management: Waste Management, Republic Services
Key Metrics for Analyzing Industrial Stocks
Industrial companies require business cycle analysis:
Order and Backlog Metrics
- Book-to-Bill Ratio: Orders received divided by orders shipped. Above 1.0 indicates growing demand.
- Backlog: Total value of unfilled orders. Growing backlog signals future revenue.
- Order Growth: Year-over-year change in new orders.
Profitability Metrics
- Operating Margin: Operating income as percentage of revenue. Shows pricing power and cost control.
- Return on Invested Capital (ROIC): How efficiently the company uses capital to generate profits.
- Free Cash Flow Conversion: Free cash flow divided by net income. Higher is better.
Aerospace-Specific Metrics
- Aircraft Deliveries: Number of planes delivered per quarter or year.
- Defense Backlog: Multi-year government contract value.
- Aftermarket Revenue: Revenue from spare parts and services (higher margin).
What Drives Industrial Stock Prices
These factors significantly impact industrial stocks:
- Economic Growth: GDP growth drives demand for machinery, transportation, and infrastructure.
- Capital Expenditure Cycles: Business investment in equipment and facilities follows economic cycles.
- Infrastructure Spending: Government infrastructure programs boost construction and machinery demand.
- Defense Budgets: Government military spending drives defense contractor revenues.
- PMI Data: The Purchasing Managers Index is a leading indicator for industrial production.
Trading Strategies for Industrial Stocks
Economic Cycle Positioning
Industrials typically outperform in early to mid economic expansion when capital spending is accelerating. They underperform late in the cycle and during recessions.
Pro tip: Watch the ISM Manufacturing PMI. Readings above 50 indicate expansion, which is bullish for industrial stocks. A rising PMI from below 50 is especially bullish.
Defense vs. Commercial Balance
Defense stocks provide stability during economic downturns due to government contracts. Commercial industrials offer more upside during expansions. Balance your exposure based on economic outlook.
Infrastructure Theme
Government infrastructure bills create multi-year tailwinds for construction equipment, materials, and engineering companies. Position ahead of major infrastructure spending programs.
Risks of Investing in Industrials
The industrials sector carries significant risks:
- Cyclicality: Industrial earnings are highly sensitive to economic downturns.
- Capital Intensity: Heavy equipment manufacturers require significant capital investment.
- Supply Chain Risk: Global supply chains create vulnerability to disruptions.
- Labor Costs: Manufacturing is labor intensive, making companies sensitive to wage inflation.
- Competition: Global competition, especially from Asian manufacturers, pressures margins.
Key ETFs for Industrials Sector Exposure
ETFs provide diversified exposure to industrials:
- XLI: Industrial Select Sector SPDR Fund
- VIS: Vanguard Industrials ETF
- ITA: iShares U.S. Aerospace & Defense ETF
- IYT: iShares U.S. Transportation ETF
- PAVE: Global X U.S. Infrastructure Development ETF
Track Your Industrial Stock Trades
Pro Trader Dashboard helps you analyze your industrials sector performance. Track economic cycle positioning, backlog trends, and sector allocation to optimize your strategy.
Summary
The industrials sector offers exposure to economic growth and capital spending cycles. Understanding order backlogs, PMI trends, and defense budget dynamics is essential for trading industrial stocks. Use industrials as a cyclical play during economic expansions and rotate to defensive subsectors like aerospace and defense when growth slows.
Continue learning with our guides on the communication services sector or the materials sector.