E External Contributions

The Coming Capex Boom – TOPDOWN CHARTS

07 September, 2021
Capex

This is article is extracted from TOPDOWN CHARTS and was republished with consent. It was written by Mike Zaccardi.



Executive Summary

  • A capex boom draws closer amid a confluence of bullish factors
  • Global concerns such as continued supply chain backlogs and soaring shipping costs highlight the need for improved supply chain investment
  • US infrastructure has aged due to a lack of investment in the last 50 years. Political support appears to be growing for a refresh.
  • Green energy requires significant public and private funding

The US Congress is inching closer to a broad infrastructure bill that would send trillions of dollars into the economic system to revitalize deteriorating fixed assets. Last week’s impacts from Hurricane Ida only serve to underscore the immediate need for investments in new roads, bridges, and maybe even subways.

Other factors are at play to spark a capex boom. We’ve covered the topic before, and our Weekly Macro Themes report reiterates a bullish position on capex investment in the coming years. We expect a broad-based, multi-pronged, lift in investment.

Capacity Utilization

A significant contributor to the need for increased capital spending is capacity utilization which has only grown tighter as 2021 progresses. With global PMIs having recovered, we foresee firms realizing the need to invest in their businesses to prevent future waves of backlogs. Google search trend volume (worldwide) of “Supply Chain Disruption/Backlog” is well off the 2020 peak, but remains higher than pre-pandemic levels.

Shipping Costs to the Moon

Homing in on an industry under the pressure is shipping. Years of underinvestment resulted in a capex to assets ratio under 5%. (Compare that to the early 2009 peak near 14% for Marine Transports and slightly under 25% for the Dry Bulkers.) Meanwhile, shipping rates are soaring. The Harpex Shipping Cost Index is double its 2005 high while the infamous Baltic Dry Index is at decade-highs. The years following those prior peaks saw jumps in shipping capex. The cure for high prices? High prices.

Easy Credit

Back to the US, another macro condition that serves to bolster capex optimism is loose lending standards. Banks are willing and able to dole out credit to companies to a degree not seen in the last 30 years. Historically, when bank lending standards are this easy, S&P 500 firms pounce on the chance to invest. So far, there has only been a minor uptick in capex spending, but it has turned the corner. We expect continued upward momentum.

Aging Assets

Near-term easy money is one thing, but arguably the bigger story that could drive a longer-term capex boom is the state of infrastructure in the US. The average age of fixed assets (government) eclipsed 25 years recently. (Compare that to the mid-20th century average of about 13 years.)

Not surprisingly, government investment as a percent of GDP has drifted back near all-time lows as shown in this week’s featured chart. Of course, we know that legislation will likely be passed in the coming weeks to boost spending, but investors might be underappreciating the powerful combination of macro factors driving both public (government) and private (corporate) investment.

Featured Chart: Underinvestment

Relative Valuation Reset

On valuation, it’s more of a mixed picture. The S&P 600 Small Cap Index sports a PE10 in the upper 30s which matches that of the S&P 500. On a forward-looking basis, however, the Russell 2000 is more than 1 standard deviation cheaper than SPX. In the last 20 years, it was only at the depths of the COVID crash when small caps were relatively less expensive. One more relative indicator—the S&P 600’s market cap as a percent of the S&P 1500 (total US market) dropped back near 2.5%, which is at the low-end of its 50-year range (from which it bottomed in 2000).

A Greener Grid

Finally, alternative energy and its infrastructure may require investments in the trillions USD within that industry alone. The rise of electric vehicles, wind/solar/battery generation, and decentralized grids demand capital investment from both the public and private sectors. While renewable energy has gotten cheaper, projects allowing us to harness that green power will not come cheaply.

Bottom Line: We reiterate a bullish stance on global capex investment in the years ahead. A confluence of factors including tight capacity utilization amid global supply backlogs, a weak state of US infrastructure, easy lending, and the rise of alternative energy provide massive tailwinds.

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You can find the previous TOPDOWN CHARTS contribution here