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A positive outlook for the second half of 2013 allowed investors look past Caterpillar's poor quarterly results and the stock moved higher by more than 2 per cent Monday. Canadian investors in resource sectors should share in the optimism.

China's economic growth forms the link between Caterpillar and commodity prices. The same rampant infrastructure development that drives China's demand for construction equipment also determines the level of global commodity prices. The result, as the chart to the left shows, is that the S&P/Goldman Sachs Commodity Index moves in tandem with Caterpillar stock.

Commodity prices and the global construction equipment industry are still struggling with the fallout from overexpansion. Caterpillar, after completing more than $10-billion (U.S.) in acquisitions in the past two years, is still burning through excessive inventories and saw poor fourth-quarter earnings as a result. In the mining industry, as Rio Tinto's mammoth writedown on Alcan assets illustrates, production is being right-sized to fit the new course of post-financial crisis global growth.

Caterpillar CEO Doug Oberhelman was measured about total global growth for 2013, calling the outlook "a bit better but still weak." He was, however, much more positive about China, noting "we're expecting economic growth in China to be near 8.5 per cent, a more favourable environment for construction and higher commodity demand."

If Mr. Oberhelman's forecast is accurate, the inventory adjustments the company is undergoing now will make profits more sensitive to improving demand.

Commodity prices should also be higher in this scenario and this would be a clear benefit for resource companies who would see higher revenues. In cases where miners had reduced production, the result would be much higher profitability – costs will have gone down while revenues improved. Iron ore, aluminum and to a lesser extent copper producers – the subsectors that we would expect to cut production – would be the areas where this pattern is most likely to occur.

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Tickers mentioned in this story

Study and track financial data on any traded entity: click to open the full quote page. Data updated as of 28/03/24 7:00pm EDT.

SymbolName% changeLast
CAT-N
Caterpillar Inc
+0.49%366.43
GS-N
Goldman Sachs Group
+0.59%417.69
RIO-N
Rio Tinto Plc ADR
+0.44%63.74

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