Parker-Hannifin Corporation (PH), Kennametal Inc. (KMT): How to Play an Improving Global PMI

One of the major headwinds facing the Industrial Resource sector is a lackluster global Purchasing Managers Index (PMI). PMI is an index that is a function of new orders, inventory levels, production, supplier deliveries and the employment environment. In short, it is an indicator of the economic health of the manufacturing sector.

PMI remained under pressure through much of 2012 as global industrial activity weakened outside the U.S. The global PMI composite index declined to 51.2 in March but remained in expansionary territory for the third consecutive month.

For the time being, a majority of the analysts from Wall Street are predicting acceleration in the global PMI through 2013. If that happens, which stocks to buy?

Accelerating PMI and the investment strategy

Parker-Hannifin Corporation (NYSE:PH), the maker of motion control systems, has been one of the companies that have seen their stock moving closely with the global PMI.

Given the Street’s bullish point of view on the PMI, investors are excited about this company. Already, the stock has seen 20% appreciation since the start of the year. The company has executed reasonably well given the sluggish demand environment, and there is likely upside to longer term estimates on the back of improving global economic activity.

The company has been a key supplier to mining equipment makers like Caterpillar Inc. (NYSE:CAT) and Deere & Company (NYSE:DE). Hence, the company’s performance is a direct function of the performance of these mining equipment makers.

The economic bellwether

Caterpillar Inc. (NYSE:CAT) has recently been underperforming the market and this has heavily weighed on Parker-Hannifin Corporation (NYSE:PH)’s stock. Commonly known as the barometer of the economy, Caterpillar Inc. (NYSE:CAT) reported an earnings miss in its recently announced quarterly results. Sluggishness in the company’s Resource Industries segment dragged down overall results. The year-over-year comparison came in weak as dealers cut inventory dramatically despite the upcoming spring and summer crop seasons. The global giant lowered its outlook for 2013 to $57 billion – $61 billion in sales and $7.00 per share in profits – from a prior estimate of $60 billion – $68 billion in revenue and EPS of $7.00-$9.00.

Many believe that Caterpillar has bloated levels of inventory in its resource segment. Hence, one could say that once Caterpillar has right-sized its inventory, Parker-Hannifin Corporation (NYSE:PH)’s sales are expected to recover.

As far as forming a rating on Caterpillar is concerned, many believe that the slowdown in the mining sector has already been priced in the stock (an example is JP Morgan’s analyst Ann Duignan). Hence, acceleration in the Global PMI, especially powered by growth in China, will help the company to perform well and help the stock price soar.

Another Industrial company

Another company that has seen its stock price move closely with the global PMI is Kennametal Inc. (NYSE:KMT), the manufacturer of metalworking tools. Given a bullish point of view on the future of global PMI, Kennametal Inc. (NYSE:KMT) has also been receiving positive sentiment from investor circles.