What is Cyclical Stocks?
480 reads · Last updated: December 5, 2024
A cyclical stock is a stock that's price is affected by macroeconomic or systematic changes in the overall economy. Cyclical stocks are known for following the cycles of an economy through expansion, peak, recession, and recovery. Most cyclical stocks involve companies that sell consumer discretionary items that consumers buy more during a booming economy but spend less on during a recession.
Definition
Cyclical stocks are those whose prices are influenced by the macroeconomic environment or overall economic changes. They are known for following the phases of economic expansion, peak, recession, and recovery. Most cyclical stocks involve companies that sell consumer discretionary goods, which are purchased more during economic booms and less during recessions.
Origin
The concept of cyclical stocks developed alongside modern economics. As the Industrial Revolution and global economic expansion progressed, investors noticed that the stock prices of certain industries were closely tied to economic cycles. This concept further evolved in the early 20th century, especially during the Great Depression, when investors became more aware of the impact of economic cycles on the stock market.
Categories and Features
Cyclical stocks can be categorized into durable goods (such as automobiles and appliances), non-durable goods (such as clothing and entertainment), and capital-intensive industries (such as construction and heavy machinery). The common feature of these stocks is that their demand increases during economic booms and decreases during recessions. The advantage is that they can offer high returns during economic expansions; the disadvantage is that they may perform poorly during economic downturns.
Case Studies
A typical example is Ford in the automotive industry. During economic expansions, consumers are more willing to buy new cars, and Ford's stock price usually rises. However, during recessions, consumers may delay purchasing new cars, leading to a drop in Ford's stock price. Another example is Caterpillar in the construction industry. During periods of economic growth, construction projects increase, boosting demand for Caterpillar's equipment and its stock price; whereas during economic downturns, construction activity decreases, potentially lowering its stock price.
Common Issues
A common issue investors face when investing in cyclical stocks is accurately predicting changes in the economic cycle. Misjudging the economic cycle can lead to investment losses. Additionally, investors often misunderstand the volatility of cyclical stocks, assuming they can provide stable returns in any economic environment.
