The manufacturing sector has been in a major slump the past couple of years. The National Bureau of Economic Research is on record saying the economy peaked in March 2001 and then turned down in April. They were referring to the overall economy. The manufacturing sector turned down much earlier. It was early 2000 that shipments for durable goods turned down, as did manufacturing production. Factory payrolls actually peaked in 1998, although factory employment has been in a long secular decline due to productivity improvements coupled with a contraction of the manufacturing sector as a percentage of total GDP.

New orders for durable goods are considered a leading indicator of economic activity. While the gains are tentative, it does appear that new orders are starting to turn around. From an investment standpoint, not all durable goods industries are performing equally. The charts below depict how the key components of durable goods are behaving and describe the subcategories so that investors might consider looking for opportunities.

Primary Metals
Key subcomponents: Iron and steel mills; Alumina, aluminum, and nonferrous metal production and processing; Ferrous metal foundries; Nonferrous metal foundries.

Neither new orders nor shipments of primary metals have shown any improvement in the past several months. These have declined on a month-to-month as well as a year-over-year basis. Current levels of orders and shipments were last seen in the early 1990s. While this industry doesn't look like a good investment prospect since both orders and shipments haven't found a bottom yet, Business Week (December 31, 2001 issue) noted that the nonferrous metal sector would post an earnings gain of 500 percent this year and the aluminum industry a rise of 169 percent.

Fabricated Metal Products
Key subcomponents: Forging and stamping; Cutlery and hand tool manufacturing; Boiler, tank and shipping container manufacturing; Metal valve manufacturing; Small arms and ordnance manufacturing, nondefense; Small arms and ordnance manufacturing, defense; Other fabricated metal product manufacturing.

Shipments and new orders of fabricated metals have posted monthly gains in two of the past three months. The year-over-year growth also looks promising in this sector. The level of shipments is still higher than the level of new orders, which means that manufacturers are still working from backlogs. The upward trend in both series looks hopeful for growth in 2002.

Machinery
Key subcomponents: Farm machinery and equipment manufacturing; Lawn and garden tractors and equipment manufacturing; Construction machinery manufacturing; Mining, oil, and gas field machinery manufacturing; Industrial machinery manufacturing; Vending, laundry, and other machinery manufacturing; Photographic equipment manufacturing; Ventilation, heating, air-conditioning, and refrigeration equipment manufacturing; Metalworking machinery manufacturing; Turbine and generator manufacturing; Other power transmission equipment manufacturing; Pump and compressor manufacturing; Material handling equipment manufacturing; All other machinery manufacturing.

The outlook for machinery may have turned the corner. Shipments were still falling on a monthly and yearly basis through December 2001, but new orders posted gains in November and December to surpass the level of shipments. This bodes well for this industry.

Computers and Electronic Products
Key subcomponents: Communications equipment manufacturing, nondefense; Communications equipment, defense; Audio and video equipment manufacturing; Semiconductor and related device manufacturing; Other electronic component manufacturing; Search and navigation equipment manufacturing, nondefense; Search and navigation equipment manufacturing, defense; Electromedical, measuring and control instrument manufacturing; Manufacturing and reproducing magnetic and optical media.

Both new orders and shipments for computers and electronic products posted gains in the final three months of 2001. The level of new orders is nearly the same level as shipments. This bodes well for future production, which did indeed begin to pick up in the final two months of the year.

Electrical Equipment, Appliances and Components
Key subcomponents: Electric lighting equipment manufacturing; Household appliance manufacturing; Electrical equipment manufacturing; Battery manufacturing; Other electrical equipment, appliance and component manufacturing.

Shipments and new orders for electrical equipment are headed higher, although the monthly changes were a bit mixed in the fourth quarter. Nevertheless, it does appear that new orders are on par with shipments. This bodes well for future production in this industry.

Transportation Equipment
Key subcomponents: Automobile manufacturing; Light truck and utility vehicle manufacturing; Motor vehicle body and trailer manufacturing; Motor vehicle parts manufacturing; Aircraft manufacturing, nondefense; Aircraft manufacturing, defense; Aircraft engine and parts manufacturing, nondefense; Aircraft engine and parts, defense; Missile, space vehicle and parts manufacturing, defense; Railroad rolling stock; Ship and boat building, nondefense; Ship and boat building, defense; Other transportation equipment.

New orders and shipments of transportation equipment rose modestly in December, but the chart certainly reflects the high volatility in this industry. The transportation component tracks sectors with vast differences, including in production schedules. For instance, the lag between orders and shipments of automobiles is very short - within a month. However, the order-shipment lag in the aircraft industry is more than a year. New orders and shipments of motor vehicles and parts were growing at a rapid clip in the fourth quarter. In contrast, shipments of aircraft and parts did rise slightly but new orders plunged in November and December after surging in October.

Bottom Line
It is very difficult to plunge in with cash and buy stocks of companies that are not doing too well during the trough of a business cycle. Unfortunately, that is what we need to do in order to "buy low and sell high." Typically, durable goods orders will weaken dramatically during recessions, and that is our clue to start looking at companies in these industries. Of course, it is important to do our homework - not all companies are well managed and poised to take advantage of a potential recovery. The economic fundamentals tell us to look at these sectors; the corporate fundamentals help us separate the wheat from the chaff to determine "the best buy."

Evelina M. Tainer, Chief Economist, Econoday