Content provided by Kostya Etus, CLS Investment Research Analyst

January 2014 marked the fifth year of the U.S. Capital Expenditure (capex) cycle.  The cycle generally lasts four to seven years, so we are on the back end of it. Let’s look at a recap of 2013. Expected expiration of bonus depreciation (additional amount of deductible depreciation awarded that is above and beyond what would normally be available) in Q4 of 2012 led to a surge in spending which rolled into a slow start in Q1 of 2013. Capex then picked up in Q2 and Q3 with notable growth in structures, industrial equipment, and software. The latest economic statistics suggest that capex strengthened in Q4 of 2013 as companies, utilized expiring bonus depreciations to their advantage.

S&P 500 companies invested $635 billion in the 12 months ending on September 30, 2013, which is an increase of 2 percent year over year. This may not seem like a large boost but it is actually a good sign, given the uncertainty of the fiscal situation in Q3 of 2013. Spending was led by the Energy sector, as usual, but the largest increase in spending was actually in the Consumer Discretionary sector, up 25 percent year over year. The increase was led by investment in manufacturing facilities, home building, and internet software.

Ned Davis Research Group predicts a deceleration for capex growth during the first half of 2014. This is partly due to the expiration of bonus depreciation (similar to the beginning of 2013) but mostly from the resurfaced uncertainty surrounding the debt ceiling debate in Washington in Q1. After the uncertainty clears, Ned Davis predicts capex re-accelerating in the second half of the year, supported by stronger domestic and global demand, favorable credit conditions, record corporate cash holdings, and elevated profit margins. Big drivers of capex are the manufacturing revival in the U.S., strong oil and gas activity, replacement cycles for machinery, cloud computing, and big data. Industrial equipment and software will likely be the biggest beneficiaries of capital spending, similar to 2013.

One of CLS’s themes for the AdvisorOne Funds in 2014 is the “Power of Innovation.” The strengthened capex will also likely lead to increased spending on research and development (a proxy for innovation) which leads to increased productivity, keeps inflation at bay, and helps to drive margin expansion. We will be focusing on investments in the sectors and industries that we believe will benefit from the growth in capex and innovation.

Capital expenditure, or CAPEX, are funds used by a company to acquire or upgrade physical assets such as property, industrial buildings, or equipment, generally made to maintain or increase the scope of a company’s operations.  Expenditures can include everything from installing a single solar panel to constructing a new corporate headquarters.

The S&P 500® Index is an unmanaged composite of 500-large capitalization companies.  This index is widely used by professional investors as a performance benchmark for large-cap stocks.

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