What Higher Interest Rates Mean for Caterpillar, GE Vernova, and Vertiv

The recent hike in interest rates, plus hawkish language from Federal Reserve Chair Kevin Warsh, led to an immediate sell-off in industrial stocks such as Caterpillar (NYSE: CAT), GE Vernova (NYSE: GEV), and Vertiv (NYSE: VRT). Now that the knee-jerk action is over, it's time to look in more detail at the potential impact of further rate increases on these stocks.

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Caterpillar carries the most risk

The industrial company's stock has surged this year as investors have priced in a return to profit growth in its construction industries and resource industries segments following the impact of tariff costs on both last year. The stock was also helped by ongoing strength in its power & energy segment, driven by booming demand for off-grid power coming from artificial intelligence (AI) data centers. As such, Caterpillar has become one of investors' favorite "hidden" ways to play the AI infrastructure boom.

These trends were confirmed by the company's recent second-quarter earnings. However, I would argue that its construction industries, financial products, and to a lesser extent, its resource industries segments are negatively exposed to higher rates.

Data source: Caterpillar presentations. Table by the author.

For example, higher rates tend to make large infrastructure and construction projects more expensive because they rely on financing. It's a similar story with resource industries (mining and aggregates), where higher rates can negatively affect decision-making on expansion activity, let alone commodity pricing. Meanwhile, credit quality (financial products) can deteriorate if higher rates pressure borrowers or make it difficult to finance equipment purchases.

However, the power & energy segment is probably the least exposed, at least for now, because the AI infrastructure-building boom is part of a structural trend and is mainly financed from cash reserves of well-funded companies like Alphabet, Amazon, and Microsoft. Caterpillar CEO Joe Creed said on the last earnings call that "Power & Energy customers continue planning with us by sharing their long-term forecasts, and some are placing orders as far out as 2030."

All told, it's far too soon to panic over a 25-basis-point hike in interest rates; a sustained increase in rates, however, is likely to hurt Caterpillar's construction segment in particular.

GE Vernova has mixed exposure

Building on the argument presented above, it appears unlikely that structural demand for the gas turbine and electrification equipment that's driving revenue and backlog growth for GE Vernova will be significantly affected by anything other than a significant increase in interest rates.

Moreover, the company's backlog, or remaining performance obligation (RPO), is so strong that it can ride out temporary weakness driven by interest rate concerns. Here's a look at GE Vernova's RPO growth in recent years. To put the current figure of $176 billion in context, Wall Street expects the company to hit $46.2 billion in revenue in 2026.

Moreover, according to the company's Securities and Exchange Commission filings, its RPO has a long duration. For example, management expects 97% of the equipment RPO to be recognized as revenue over five years, and 92% of services RPO over 15 years.

Data source: GE Vernova presentations. Chart by the author.

And CEO Scott Strazik, speaking at a recent Morgan Stanley conference, told investors: "We've talked about getting to a $200 billion backlog in 2027. I would say on the strength of the orders we expect to see in the third quarter, that $200 billion milestone we should hit very early in 2027."

That said, GE Vernova still sells gas turbines and electrification equipment to meet traditional demand from interest-rate-sensitive power utilities, and higher rates would hurt its wind power segment, since investment decisions could be curtailed due to increased borrowing costs.

Vertiv has the least exposure

Building on the themes discussed above, and recognizing Vertiv's exposure to the AI data center infrastructure spending, it seems unlikely that its segment for data center infrastructure equipment (cooling and power management technology) will suffer unless rates rise significantly.

As noted above, the larger hyperscalers, which account for the overwhelming bulk of spending, are largely funding AI investment from their own resources. And these are multiyear structural investments designed to generate a huge return on investment coming from long-cycle secular growth in AI adoption. It's not the same as the kind of cyclical investment that gets curtailed when rates rise -- as when, say, an airline cuts capacity as the economy slows.

Lee Samaha has no position in any of the stocks mentioned. The Motley Fool has positions in and recommends Alphabet, Amazon, Caterpillar, GE Vernova, Microsoft, and Vertiv. The Motley Fool has a disclosure policy.