The US economy has evolved along two distinct tracks over the last two years, with the services sector booming while the manufacturing sector has languished in contraction territory. This bifurcation has been a key factor in the "weird" feel of the current bull market. However, a closer look at the data suggests that the tide may be turning, with signs of a potential resurgence in the manufacturing sector and broader economic optimism on the horizon.

Uncovering the Duality of the US Economy

The Services Sector Soars, Manufacturing Struggles

The US economy has been a tale of two sectors in recent years. The services sector, which accounts for just over 70% of the economy, has been thriving, registering a multiyear high in activity according to the Institute for Supply Management. In contrast, the manufacturing sector has been mired in contraction territory for nearly two years, with the last time the gap between these two parts of the economy being this wide dating back to the beginning of the century, in December 2000.This bifurcation has been a key factor in the "weird" feel of the current bull market, as the divergence between the booming services sector and the languishing manufacturing sector has created a sense of economic dissonance. However, a closer examination of the data suggests that the tide may be turning, with signs of a potential resurgence in the manufacturing sector and broader economic optimism on the horizon.

The Inventory Conundrum: A Turning Point?

One of the key challenges facing the manufacturing sector has been the persistent issues of weak demand, flat sales growth, and high inventories. According to Bank of America's US Equity and Quant team, mentions of weak demand have jumped to the highest level since the COVID-19 pandemic's second-quarter slump in 2020. This has been a significant drag on the cyclical sectors that have been struggling for almost two years.However, the same team also tracks mentions of the word "bottom" in earnings calls, and they have noted a 42% surge in these mentions compared to last year. This jump in "bottom" mentions has historically marked an inflection point in earnings per share, suggesting that companies may have largely finished reducing their inventory levels and could soon start to rebuild their stock of goods.

The Election Factor: A Potential Clearing Event

Another key factor in the economic landscape has been the looming uncertainty surrounding the upcoming election. According to the analysts at Bank of America, much of the poor corporate sentiment can be attributed to a "malaise" that is "typical of pre-election uncertainty." However, the flip side is that with the election out of the way – regardless of who wins – corporates will have the cloud of uncertainty lifted, potentially paving the way for a resurgence in investment activity.History suggests that investment activity typically accelerates in the aftermath of an election, as companies gain clarity on the policy landscape and feel more confident in their long-term planning. This, combined with a new cyclical recovery backed by a friendly Federal Reserve delivering a long-awaited easing cycle, could create a perfect storm of opportunity for investors, particularly in the small-cap space.

The Potential for a Broad-Based Rally

As the US economy navigates the bifurcation between the services and manufacturing sectors, the data suggests that the tide may be turning. With signs of a potential resurgence in the manufacturing sector, a potential clearing of the pre-election uncertainty, and a supportive Federal Reserve, the stage could be set for a broad-based rally in stocks.For investors, this could present a unique opportunity to capitalize on the shifting economic landscape. By closely monitoring the data and staying attuned to the evolving trends, savvy investors may be able to position themselves to take advantage of the potential upside in the coming months and years.