Playing Rising Industrial Production

By Aaron Levitt | August 19, 2010 AAA

Investors are still nervous about the fate of the United States and worldwide economic recovery. Unemployment is still holding steady and in some cases rising. Both residential and commercial real estate are still in the doghouse, and consumer spending can only be described as "weak" at best. The odds for a double-dip recession have been increasing, and gold prices have been reaching new highs. With all the doom and gloom plaguing the headlines, a few bright spots have peaked through the clouds.

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Factories Ramp Up

The Federal Reserve recently reported bullish news for America's manufacturing base. Output in the nation's factories rose a strong 1.0% in July, outpacing the analysts' estimated 0.6% gain. Overall, industrial production has gained nearly 7.7% through the year with widespread increases in production across several sectors. The fabrication of durable goods rose 4.9%, and consumer products production rose 1.1%. Even construction equipment production grew a modest 0.5% during the month.

The manufacturing sector also received a helping hand from automobile and truck production. Output of motor vehicles and related parts surged 9.9% in July after falling 2.5% in June. Analysts cite the fact that more plants were left open rather than idled for mid-year restoration with General Motors (OTCBB: MTLQQ) leading the way.

Reaching levels not seen since November 2008, capacity utilization rose to 74.8% in July, up from 74.1%. This measures how much of a factory is in use. The statistic is still below the 20-year average of 80%, signaling that the sector still could have some room to run. The Fed's commentary also showed that investment in new equipment by businesses continued to grow as factories produced more computers and electronics.

Bullish News For A Portfolio

While a lot can happen over the next few months, the industrial complex remains an important part of the U.S. financial system. In a speech, Commerce Secretary Gary Locke recently said "Manufacturing is absolutely central to driving the innovation that fuels the American economy." Any bullish upticks in manufacturing output can only be seen as positives for the economy. Investors wanting to play those positives can do so with the Industrial Select Sector SPDR (NYSE: XLI) or iShares Dow Jones U.S. Basic Materials (NYSE: IYM). Both offer broad access to the manufacturing sector and will benefit from boosts in output. However, investors may find some of the best opportunities in individual stocks.

Increases in output should be seen as bullish news for Rockwell Automation (NYSE: ROK). The company is one of the largest producers of industrial manufacturing equipment. The company recently reported an increase in demand, as manufacturers who had cut their CAPEX budgets during the recession have resumed investing in new equipment. This increase saw Rockwell tripling is earnings per share over last year's same quarter. Rockwell shares yield nearly 2.7%.

A Broad Comglomerate Play

Emerson Electric (NYSE: EMR) offers a broad conglomerate play on the industrial sector, with divisions ranging from network power and electrical equipment to fluid automation and closet storage systems. Like Rockwell, as the economy recovers, Emerson's products will continue to be in demand. Emerson also yields 2.7%.

While most investors are familiar with ITT's (NYSE: ITT) defense and military operations, the company derives more than half of its earnings from water, wastewater and industrial fluid markets. As water scarcity becomes more of a reality, utilities and municipalities will be forced to spend more on water systems, ultimately benefiting ITT's bottom line. In addition, the company has been reinvesting nearly 65% of earnings back into its business via acquisitions in non-defense markets. This bodes well for growth going forward. ITT shares yield 2.3%.

Bottom Line

While there is still a level of uncertainty about the U.S. economy, industrial output is on the rise. The recent bump in capacity and output across several of the major manufacturing sectors should be seen as a positive for the economy's stabilization. Investors wanting to play this trend can do so either through ETFs such as the Materials Select Sector SPDR (NYSE: XLB) or individual stocks such as component supplier Parker Hannifin (NYSE: PH). (To learn more, see The Ups And Downs Of Investing In Cyclical Stocks.)

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