One Wall Street analyst is calling the top on heavy equipment makers, and investors are heeding the call. Shares of Caterpillar (NYSE: CAT) traded down about 3% on Tuesday afternoon after the stock was downgraded to in line from outperform.
Souring on the sector after a nice run higher
Caterpillar makes big, expensive machines used in construction, infrastructure development, and mining. Its products are ubiquitous and essential to the global economy, but sales tend to surge and fall along with current economic conditions and its customers' willingness to commit big money to new equipment.
Shares of Cat are up 50% over the past three years, easily beating the S&P 500's 27% return. David Raso, an analyst at EvercoreISI, believes the time is right for investors to take profits on the stock and look elsewhere for bargains.
Raso downgraded Caterpillar shares to in line from outperform, while raising his price target on the stock to $338 from $321. In an accompanying note, the analyst said now is the prudent time to take profits in the machinery space following post-earnings rallies.
In addition to Caterpillar, Raso also moved Ingersoll-Rand(NYSE: IR) and Timken(NYSE: TKR) from outperform to in line.
The move comes at a time when valuations are looking stretched and higher interest rates are making new equipment harder to afford.
Is Caterpillar stock a buy or sell right now?
Raso notes that the recent rally has been driven by multiples growth, not earnings growth. With multiples unlikely to move higher, it will be up to companies to show earnings growth in the quarters to come if the stocks are to go higher from here. In the current interest rate environment, that is a tough ask.
Investors interested in Cat and other heavy equipment manufacturers need to understand that these businesses are cyclical, and when demand falls, there is only so much even the best management teams can do to keep the momentum going.
Over time, and through multiple business cycles, Caterpillar has proven itself to be a reliable stock and a market beater. But for now, patience is required.
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Lou Whiteman has no position in any of the stocks mentioned. The Motley Fool has no position in any of the stocks mentioned. The Motley Fool has a disclosure policy.
