Sector Divergence in a Slowing U.S. Economy: Tactical Shifts for Equity Portfolios

The U.S. economy, long a bastion of resilience, is now exhibiting signs of uneven momentum. The latest S&P Global U.S. Services PMI for August 2025, , . While still above the 50-mark for growth, the data underscores a moderation in the services sector's expansion, revealing stark divergences across industries. For equity investors, this divergence demands a recalibration of strategies, favoring sectors insulated from macroeconomic headwinds while avoiding those exposed to structural vulnerabilities.

The Softening Services Sector: A Tale of Two Industries

The services PMI's slight dip reflects broader economic fragility. Input costs, driven by and global supply chain bottlenecks, remain elevated, with output prices rising at their fastest pace in three years. Yet, the sector's performance is far from uniform.

Software and Information Services: A Beacon of Resilience
The Information sector, a proxy for software and digital infrastructure, has thrived amid the slowdown. , , fueled by demand for data center expansion and . , as companies stockpiled critical components to hedge against tariff-driven price hikes. This trend mirrors the broader tech sector's dominance in equity markets, where firms like Microsoft and Alphabet have consistently outperformed.

Investors should consider increasing exposure to software stocks, particularly those with recurring revenue models and pricing power. The sector's ability to absorb input cost pressures through margin expansion—bolstered by high demand—makes it a compelling long-term play.

Construction and Engineering: A Sector in Retreat
In contrast, the Construction industry reported a contraction in August, . Employment in the sector fell for the third consecutive month, reflecting a retrenchment in hiring and project delays. on imported materials, coupled with rising labor costs, have eroded profitability. Engineering services, while not in outright contraction, face similar challenges: the Professional, Scientific & Technical Services sector saw employment decline despite modest activity growth.

For construction and engineering firms, the path to recovery hinges on policy shifts or a rebound in infrastructure spending. Until then, underweighting these sectors is prudent.

Tactical Adjustments for a Fragmented Recovery

The divergent trajectories of software and construction highlight the importance of sectoral granularity in portfolio management. Here are key recommendations:

1. Overweight Software and Tech-Adjacent Sectors: Allocate capital to firms in the Information and Professional Services sectors, which are benefiting from digital transformation and . These industries are less sensitive to cyclical downturns and offer durable cash flows.
2. Underweight Construction and Tariff-Exposed Industries: Reduce exposure to construction and engineering firms, which face margin compression from and labor shortages. Similarly, sectors reliant on imported materials (e.g., industrial equipment) should be avoided.
3. Monitor Tariff Policy and Input Cost Trends. Sectors with pricing power, such as software, can pass on cost increases, while others, like construction, cannot.

Conclusion: Navigating the New Normal

The U.S. economy is no longer a monolith. While the services sector continues to expand, its subsectors are diverging sharply in performance. For investors, the lesson is clear: a one-size-fits-all approach to equity allocation is obsolete. By tilting portfolios toward software and away from construction and engineering, investors can position themselves to thrive in an era of uneven growth. The key lies in identifying industries that are not only surviving the slowdown but reshaping it.