Should investors lockout industrial stocks?

Stubbornly persistent poor returns since the beginning of the year have unfortunately made the industrial sector an underperformer. As a result, who can really blame investors for asking themselves the big question: is it time to quit industrials? At the same time, who can fault them for quickly selling off stocks in this group that fail to meet street forecasts? And who wouldn’t abandon industrial stocks and move into relatively more attractive sectors?

According to industry analysts, it might very well be the right moment for investors to underweight the group in their portfolios. Many share a neutral to slightly negative investment outlook for this sector. In other words, there are enough market watchers out there who believe that there are limited opportunities in industrials that, in their minds, may continue to underperform the broader market in the months ahead.

Why the downbeat sentiment? It is due, of course, to the fundamentals underlying industrials today.

Let’s start with the unfavourable ones:

• Expectations of slower growth for several industrial sub-industries in the coming months (the anticipated adverse impact from today’s soaring oil prices)
• A mix of investment outlooks (from neutral to negative) for a majority of sub-industries in the industrials area
• A relatively higher price-to-earnings ratio on estimated 2005 earnings per share (vs. the overall market average)
• Possibility of a major correction in industrials (now that the sector is trading above its two-year uptrend)
• Evidence of weakening technical strength (with the sector hitting lower highs and lower lows)
• Signs of a longer-term weakening in momentum

Favourable fundamentals for industrials include the following:

• Forecasts of opportunities in sub-industries in the first stages of recovery
• Expectations of longer periods of earnings growth for certain sub-groups
• Possibility of ongoing growth for segments in the late stages of economic expansion (like building products, construction and trading companies)

Some of the stocks that fall into this group include the following: ACE Aviation Holdings, American Standard, Ballard Power Systems, Boeing, Caterpillar, Crane, Delta Air Lines, General Electric, FedEx, General Motors (Canada), Heroux, Honeywell, Ingersoll-Rand, Magellan Aerospace, Magna International, Paccar, Pitney-Bowes, 3M, Tyco, United Parcel Service and United Technologies.

July 2005

Staff

The staff of Advisor.ca have been covering news for financial advisors since 1998.