June 2, 2010
Gauge Offers Hope For U.S. Construction Slump

The U.S. non-residential construction sector, which felt the blistering economic downturn later than the housing market and has been slower to recover, might be near the end of a two-year slump.

And that could be good news for the shares of manufacturers such as Deere & Company and Caterpillar Inc., which make heavy construction equipment, to Honeywell International Inc. and Ingersoll-Rand, makers of heating and cooling systems for office and other buildings.

One piece of evidence that demand for malls, factories and other nonresidential structures is improving comes from the Architecture Billings Index, an indicator that leads construction spending by nine to 12 months.

Last month, it reached its highest level since January 2008, but it is not showing growth yet.

"We have stepped away from the abyss," said Oliver Pursche, executive vice-president with Gary Goldberg Financial Services, who co-manages the GMG Defensive Beta Fund.

"It's the first step towards (recovery)."

The fund, which picks stocks based on macro themes that propel industries over the long term, owns stock in 3M Co., Tyco International Ltd. and Caterpillar, partly as bets there is going to be an expansion of global infrastructure.

The biggest question the $500-billion construction sector faces is just how solid the U.S. economic recovery is, because businesses that cut workforces and slash production do not need new buildings.

That worry is reflected in the sector's recent slide. The Standard & Poor's capital goods industry index has fallen 12.6 per cent since its 52-week high on April 30, compared with the eight-per-cent fall of the broad S&P 500 over the same time period.

"The macro picture is more significant than short-term prices," Pursche said. "We have confidence in the fundamentals of the economy."

Non-residential construction is a key market for U.S. industrial companies, some of which generate half or more of their revenue from selling heavy equipment to build, power and cool large office and commercial buildings.

As the sector approaches a bottom, some equipment makers are forecasting that demand for their gear is set to rebound.

Deere forecast last week that worldwide sales of its construction and forestry equipment would rise 30 per cent for full-year 2010, saying rental companies are beginning to purchase earthmoving equipment and dealers report higher utilization of rental equipment -- both indications of construction activity.

Ingersoll-Rand, meanwhile, sees a leveling off in demand for heating and cooling equipment and security technology.

"Sometime between the third quarter of this year and probably the middle of next year, we would hope to see at least a clear bottoming in the commercial construction markets," Ingersoll CEO Michael Lamach told the Reuters Manufacturing Summit this month.

JP Morgan has also begun recommending stocks linked to the sector, citing the improvement in the architecture index.

These include electrical products maker Hubbell Inc., Ingersoll-Rand, industrial distributor Wesco International Inc. and General Electric Co. All are "overweight"-rated stocks.

Total non-residential spending was down 17 per cent at $587 billion in March, according to census data, with spending on office and commercial space down more than 30 per cent, manufacturing spending off 28 per cent and health care down 13 per cent.

Spending on power and highway projects was flat.

But a bottom is not the same as a recovery.

"People are looking for any light at the end of the tunnel, but they're certainly not at the end of the tunnel," said Kenneth Simonson, chief economist of the Associated General Contractors of America.

"The turn hasn't come yet."

Source: Reuters, May 28, 2010

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