A troubling trend in the U.S. industrial sector seems at odds with the rising euphoria of the stock market. The Institute for Supply Management (ISM) has reported nine consecutive months of contraction in the manufacturing sector, as indicated by the Purchasing Managers Index (PMI), which has long been regarded as a reliable metric of the industrial economy. In stark contrast, the S&P 500 index has recently reached record highs, creating a perplexing scenario for analysts and investors alike.
Historically, such a divergence has occurred only three times before—during the periods of 1984-1985, 1995-1996, and now, 2023-2024. Nonetheless, experts propose that this situation may not be as alarming as it seems for a couple of reasons, along with an emerging opportunity.
First, the manufacturing sector constitutes a significantly smaller portion of the overall economy than it did in previous decades. In 1948, when the PMI was first introduced, manufacturing made up over 25% of the U.S. economy. Today, it accounts for less than 10%. This gradual decline suggests that the health of the manufacturing sector has less impact on the overall economic outlook than it once did.
Secondly, the current contraction in manufacturing can be partly traced back to prolonged inventory adjustments. Following the supply chain disruptions that arose post-lockdowns, manufacturers have been working to deplete excess inventory. This trend has been particularly acute in the 2023-2024 timeframe, compounded by the effects of tariff measures implemented in 2025.
However, a closer examination of the PMI’s customer inventories indicates that current levels are “too low” on a net basis, suggesting a potential turnaround for the sector. This shortfall in inventories could compel companies to restock, which could provide a much-needed boost to the manufacturing economy. Furthermore, the tariff actions are intended to fortify U.S. manufacturing, and investments in expanding domestic production capabilities in 2025 are projected to deliver positive returns in the future.
For investors, the implications of these trends are noteworthy. Those concerned about the valuations of AI stocks, while skeptical about the broader economic growth that includes AI, may want to consider shifting their focus toward industrial stocks in 2026. Historical precedent suggests that an industrial recovery is on the horizon, highlighting a strategic opportunity for savvy investors looking to capitalize on the resurgence of the manufacturing sector.
