Key Takeaways:
The S&P 500 industrials sector now trades at a P/E ratio above 30, matching tech stock valuations for the first time in decades.
The S&P 500 industrials sector has reached a forward price-to-earnings ratio above 30, a level investors typically associate with high-growth technology stocks and well above the sector's long-term average of about 20. The re-rating reflects surging demand for the infrastructure needed to power the artificial intelligence buildout, from electrical substations and power generation equipment to construction machinery and data center components.
"If you look at XLI from State Street, its valuations are really high relative to the S&P 500," Cinthia Murphy, director of research at VettaFi, said on CNBC's "ETF Edge." "It's as high as tech, so it really is a sector that has really had its moment in the sun and picked up a lot of attention."
The Industrial Select Sector SPDR Fund (XLI) has drawn $3.6 billion in net inflows year-to-date, part of a broader wave that has pushed total flows into industrials ETFs to $23 billion across more than 60 funds, according to VettaFi data. Machinery and electrical equipment companies, which make up 20.89% and 14.16% of XLI's holdings respectively, have led the charge. Caterpillar, the fund's top holding, has surged nearly 160% over the past two years, while GE Vernova, the third-largest holding, has gained more than 50% this year alone and reported a $176 billion business backlog at the end of the second quarter.
The spending wave shows no signs of slowing. Alphabet forecast capital expenditure of $195 billion to $205 billion for 2025 in its latest earnings report, up from prior guidance of $180 billion to $190 billion, and warned those numbers could rise further in 2027. McKinsey & Co. estimates global data center spending could approach $8 trillion by 2030, with the vast majority dedicated to infrastructure and IT equipment. Nvidia Chief Executive Officer Jensen Huang described the buildout as "the largest infrastructure buildout in human history" in a March blog post.
AI Infrastructure and the Industrial Backbone
The race to construct AI data centers has created a secondary boom in the companies that build the physical infrastructure behind the technology. New data centers require electrical substations, high-speed fiber networks, energy storage systems, and backup power equipment — all categories that fall within the industrials sector. Much of the next phase of construction is expected to take place in rural areas, where peak power grid capacity remains limited, requiring upgrades that can multiply existing capacity by as much as 20 times per facility.
The demand extends beyond pure AI infrastructure. Aerospace and defense companies account for 25% of XLI's sector allocation and have benefited from rising global defense spending. Lockheed Martin, a top 20 holding in the index, reported quarterly earnings that beat on both revenue and earnings, sending shares up more than 10% in a single session. The stock has gained roughly 35% over the past year alongside peer RTX Corp., the fourth-largest XLI holding. Delta Air Lines shares have risen 45% over the past year as travel demand remains strong despite elevated oil prices pressuring margins.
Active Managers Join the Trade
While passive flows into index funds like XLI have driven much of the sector's momentum, active managers are also rotating in. Jon Maier, chief ETF strategist at J.P. Morgan, noted that 34% of the $17 billion in total industrials ETF flows this year have gone into actively managed funds. The iShares Defense Industrials Active ETF (IDEF) has attracted $4.4 billion year-to-date, making it the most popular industrials ETF by flows, followed by XLI at $3.6 billion and the GlobalX Defense Tech ETF (SHLD) at $2.6 billion.
"Security and resilience is really important, and that's going to play even bigger and bigger of a role," Maier said on "ETF Edge," linking the defense and AI infrastructure themes as converging drivers for industrial stocks.
The space economy has also contributed to the sector's momentum, though with more volatility. The Tema Space Innovators ETF (NASA) drew $2 billion in inflows year-to-date but has fallen nearly 20% over the past month. Still, the longer-term outlook for the space economy continues to attract investor attention, with aerospace and defense companies comprising a quarter of XLI's allocation.
"The market is always forward-looking, and that's really what a stock price is — the cash flow of future earnings," Maier said, adding that the sustained flows into industrials reflect investor confidence in the sector's multiyear growth trajectory.
This article is for informational purposes only and does not constitute investment advice.
