Cyclical behavior isn’t limited to the
markets as a whole, or even to specific asset classes. Certain
individual stocks follow predictable patterns, as stocks prices
in specific sectors of the economy do. These recurring ups and
downs are determined by how closely a specific sector or investment’s
performance is tied to what’s happening in the overall economy.
Cyclical
stocks
typically flourish in good economic times and suffer
during downturns. Airline stocks, for example, tend to lose value
when business and pleasure travel is cut back and their corporate
earnings fall. But when the economy recovers, earnings tend to
rise and the stock prices tend go up. If you own a cyclical stock
at the beginning of an upturn, you stand to benefit from the increasing
price.
On the other hand, defensive,
or
countercyclical stocks,
in industries such as utilities, drugs,
healthcare and food, are often more resilient in
recessions
and stock market slides — at least theoretically — because
demand for their products and services continues. Many investors
include defensive stocks in their portfolios to offset their more
volatile or cyclical investments.
While some types of companies do poorly in
a slump, it’s hard to be certain which ones will take the
biggest hit or find it hardest to recover. In that case, the strength
of the company is probably as important to its performance as
the state of the economy.
Investment crushes
Certain sectors of the economy are sometimes the object of investor affection, and at other times the subject of scorn. If you buy a stock or mutual fund in an already hot sector, you run the risk of paying the highest price. But if you’re already invested when the price begins to rise, you’re in a position to benefit from the run-up.
