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Whenever I look at an ETF for a specific economic sector, I first look at the macroeconomic backdrop to determine if the sector is expanding or contracting. I then look at the ETF's charts to determine if this is a good time to buy (if the sector is expanding) or sell (if the sector is contracting).
Investment thesis:
While the industrial sector is performing well, NYSEARCA:XLI is trending modestly lower. Don't sell yet. But if the ETF breaks the 200-day EMA in a meaningful way, take some profits off the table.
The latest industrial production report was strong (emphasis added):
Industrial production increased 0.4 percent in August after moving up 0.8 percent in July. Late-month shutdowns related to Hurricane Ida held down the gain in industrial production by an estimated 0.3 percentage point. Although the hurricane forced plant closures for petrochemicals, plastic resins, and petroleum refining, overall manufacturing output rose 0.2 percent. Mining production fell 0.6 percent, reflecting hurricane-induced disruptions to oil and gas extraction in the Gulf of Mexico. The output of utilities increased 3.3 percent, as unseasonably warm temperatures boosted demand for air conditioning.
The headline figure was cut nearly in half due to Hurricane Ida. Expect backlogs of work to juice this figure during the next few months as hurricane delayed orders are processed.
The following table provides additional context:
This statistic continues to perform well:
Industrial production dropped sharply during the recession but has since returned to pre-pandemic levels.
Durable goods orders have also rebounded strongly:
The above chart show total durable goods (in blue), durable goods orders less transportation orders (in red), and non-defense capital goods (in green). The chart converts the data to a base 100 format and uses the beginning of the last recession (02/20) as 100. All three categories of orders have been rising since the end of the recession.
The latest report from the Institute for Supply Management® was very strong:
ISM PMI report; The author has permission on file to use data from the latest month's report.
The data is organized so that 50 separates contraction from expansion. A reading of 60 is very strong. While the sector is doing well, there is some weakness in employment (which is just barely above 50) along with price pressures caused by supply chain issues.
The latest Markit Economics report shows a similar dynamic:
The seasonally adjusted IHS Markit U.S. Manufacturing Purchasing Managers' Index™ (PMI™) posted 60.7 in September, down from 61.1 in August, but broadly in line with the earlier released 'flash' estimate of 60.5. The latest data indicated a marked improvement in the health of the U.S. manufacturing sector, despite being the slowest since April.
Contributing to sustained overall growth was a further expansion in output during September. The rise in production was strong, but eased to the slowest since March amid challenges related to material and labour shortages. Nonetheless, where an increase in output was noted, firms linked this to a further upturn in new orders.
Demand conditions across the manufacturing sector remained strong at the end of the third quarter, as new sales rose markedly. Alongside greater new business from new and existing customers, some firms suggested new order growth stemmed from client efforts to stockpile.
Economic conclusion:
The industrial sector is in solid shape. Orders are high, which is stimulating production. While there are pricing pressures and labor issues, these are "good" problems to have - meaning these are signals that the industry is experiencing solid demand and is having to increase activity.
Whenever I look at a sector-specific ETF, I compare its performance to that of its broad industry peers, which in this case would be: XLB, XLC, XLE, XLF, XLK, XLP, XLU, XLV, XLY, and VNQ (11 total):
| Week | Month | 3-Month | 6-Month | 1-Year | |
| XLI's Relative Performance | 6th | 5th | 11th | 10th | 4th |
Data from Finviz.com
XLI is a clear winner during the last year. But its performance tapered off in the 3- and 6-month time frames. It's picked up a bit in the last week and month, but there are obviously stronger gainers.
Two charts are relevant for this analysis:
XLI EMAs Only StockCharts.com | Advanced Financial Charts & Technical Analysis Tools
The above chart only contains the following EMAs: 200-day (in magenta), 50-day EMA (in green), 20-day EMA (in red), and 10-day (in blue). The purpose of this chart is to focus exclusively on the short, intermediate, and long-term trends without the noise of daily price movements.
While the longer-term trend is still intact, all the shorter trends are moving lower.
XLI 1-Year Source: StockCharts
XLI was one of the sectors that benefitted from the reflation trade. However, the sector peaked in late May. It trended sideways during the summer and has trended modestly lower in September. But notice that the XLI's up/down volume line (middle panel) and advance/decline line (bottom panel) have trended sideways, indicating there hasn't been any flight from the ETF. Instead, the move lower is the result of modest selling.
While the ETF's overall performance is somewhat mediocre in the intermediate-term, it's not due to declining fundamentals but instead slight profit-taking. For now, keep your position. But keep your eye on the 200-day EMA. If prices make a strong move below it, think about selling at least some of your position to lock in profits.
