What happened
Shares of industrial and materials stocks were getting hammered on Tuesday, with sector leaders Caterpillar (CAT -0.03%), Johnson Controls (JCI 0.71%), and Steel Dynamics (STLD 0.80%) all falling hard, down 5%, 4.5%, and 7.8%, respectively, as of 1:30 p.m. ET.
The across-the-board sell-off portends some sort of macroeconomic or market-based fear, and likely one that would increase the odds of a recession. All three companies are economically sensitive, with Caterpillar and Johnson Controls highly exposed to the level of construction spending, while Steel Dynamics also exposed to both construction and auto sales. So, all three would likely suffer in a recession brought about by the Federal Reserve's rapid interest rate increases.
Today, two data points indicated potentially difficult times ahead in the sector: a lower-than-expected Job Openings and Labor Turnover Survey (JOLTS) for February, as well as a massive decline in apartment building sales, as reported by CoStar Group.
Image source: Getty Images.
But is the drop an overreaction?
So what
Today, the February JOLTS report came out, and the number of job openings came in far below expectations. February reported 9.93 million job openings, down 632,000 from January, and well below the 10.4 million estimate. That was also the first time JOLTS had fallen below 10 million since May 2021 -- shortly after COVID vaccines had been widely distributed. In addition, even the "hot" January numbers were revised down.
The big miss suggests the economy may be cooling rather quickly. And keep in mind that this is data for February, which was over a month ago. That's before the regional banking crisis hit, and before the latest hike in the federal funds rate, which could even further slow down the economy.
In addition, real estate data provider CoStar released its first-quarter report on the state of apartment building sales today. The report showed a massive 74% decline in apartment building sales -- the largest drop since the 77% decline in the first quarter of 2009, just as the Great Recession was kicking in.
Real estate prices are generally falling, while the costs of lending have greatly increased, making purchasing an apartment building less attractive for investors. And while there is a lot of supply coming on to the market this year, a cool real estate market has the potential to mute building activity.
Obviously, lower building activity would limit sales and usage of Caterpillar's construction machines, as well as Johnson Controls' heating, air conditioning, ventilation, refrigeration, and security systems, along with Steel Dynamics' construction-related steel products. Steel Dynamics may be especially sensitive to the economy, as it is dependent on the price of steel, which fluctuates more than prices for downstream machinery made by Caterpillar and Johnson Controls.
Now what
Still, here's why this sell-off could be an overreaction, and therefore an opportunity.
The industrials and commodities segments are in an interesting place right now, stuck in between two crosscurrents.
On one hand, the Fed is trying to cool inflation through its rapid interest rate increases, which have the potential to knock the economy into a recession. That would obviously be bad for these economically sensitive stocks.
On the other hand, these three companies should also benefit from the government's effort to "reshore" U.S. manufacturing, as well as various infrastructure bills passed over the past two years. These include the Bipartisan Infrastructure Law passed in late 2021, along with the CHIPS Act and Inflation Reduction Act passed in mid-2022. All three of those laws designate money for construction of industrial, manufacturing, broadband, and clean energy infrastructure in the U.S., and money from all three laws should begin to come through this year while ramping up over the next five years or so.
And even within today's "weak" JOLTS numbers, while overall openings declined, they are still relatively high on a historical basis, with 1.7 openings per every employed person. Breaking down the JOLTS numbers by segment, the number of construction job openings actually increased in February, with the declines seen in other sectors, such as business and professional services.
Therefore, it's possible construction activity may not fall off as hard as some may fear. Furthermore, if we do get a near-term recession and building slowdown, construction activity could pick up again after not too much time as money from the various stimulus bills kicks in. Therefore, should these industrial and commodity stocks sell off further, they may be stocks to put on your buy list to play a strong domestic recovery.
