The reality of Cyclical Stocks

If a stock and its price are affected by seasonal and cyclical changes of an economy, then such a stock is referred to as a cyclical stock.

It is not unusual for economic changes to have huge and lasting impacts on stocks. In other words, a stock that is bad right now might just be experiencing a down time.

If a stock and its price are affected by seasonal and cyclical changes of an economy, then such a stock is referred to as a cyclical stock.

These changes include recession, expansion, peak, and recovery; and if you think about your own pattern as a consumer, you will understand that cyclical stocks are as normal as you buying Chicken majorly in December.

Why Cyclical Stocks Exist

Think of how you shop as a consumer. In periods of economic vibrancy, it is natural to see things moving fast – these are the periods for new clothes, luxury cars, exquisite hotels, restaurants, etc.

However, in periods of recessions or a global pandemic like what we have witnessed for the better part of this year, those things barely move at all.

These items are known as “consumer discretionary items” and the way it works is that when the demand is high, overall prices increase making the share price of the stock also increase. When this demand reduces, prices could also fall.

Investing in Cyclical Stocks

Not all stocks are impacted by cyclical events. Even in the heat of the pandemic, many consumer goods were still in high demand as people will cut other aspects of their expenditure to ensure that feeding stays intact. Consequently, cyclical stocks are volatile and riskier.

Investing in cyclical stocks can be risky because the investor might not know when the economy is about to go into recession. A few cyclical stocks could even become worthless during recessions, with the companies likely to go out of business.

On the flip side, they could birth some of the greatest opportunities in the stock market. Stocks like Zoom and TikTok garnered their major market shares in the heat of the Coronavirus pandemic.

The opportunities and threats

Knowing that certain stocks move in certain patterns is what led to the birth of fundamental and technical analysis in the first place. Cyclical stocks offer investors and analysts the opportunity to attempt to predict the movement of the market.

Consequently, traders would seek to buy low and sell at high prices. On one hand, it could birth an opportunity; on the other, it could create a false sense of security as traders attempt to beat the market.

Generally, cyclical stocks have a high tendency to outperform non-cyclical stocks particularly in periods of economic strength. In other words, these stocks are great additions to your investment portfolio. You just need to determine the right weight to allocate to them.

Written by Lawretta Egba.