Difference Between Cyclical & Non Cyclical Stocks

Investing in stocks is no different than playing a football game! Giving the volatility in the market, everybody should be prepared to be offensive and defensive time-to-time especially, when you’ve invested for long-term. In doing so, many investors maintain an investment portfolio with a combination of stocks, bonds, and cash. Also, many diversify their portfolio time-to-time on the basis of size and industry. But, that’s not enough! One should implement other strategies to better prepare for future unpredictability.

If you are going for this, then you would require a good knowledge of the economy and how financial markets work. And this is what made difficult for rookie investors to invest in right stocks and make investing decisions.

You need to understand that the economy goes through a lot of changes due to different business cycles which affect it deeply. In such circumstances, it is very difficult to predict the future outcome and to keep up with the ever-changing market. No one can control the economy but can understand how the industries are related to the economy. Thus, one needs to include stocks of cyclical and non-cyclical companies in the portfolio to mitigate the risk of unexpected movement in the economy.

What are Cyclical Stocks?

As the name suggests, the cyclical stocks or companies are those that follow the trend in the overall economy. Cyclical stocks are very volatile because of these it moves with the direction of the market. When the economy grows, the value of cyclical stocks goes up but if the economy is not doing well, the value of cyclical stocks goes down.

Cyclical stocks have a high correlation with the movements of the business cycle. The stocks rise in value when the businesses are doing well and consumers are spending more money. Many investors take advantages of investing in cyclical stocks which provides a great opportunity to investor earn revenue on the stock by buying when there is a downturn and selling when there is an upward trend. However, it sometimes worked as double-edged swords because it is not easy to tell when there will be a downturn in the market.

The best example of cyclical stocks is Automobile companies which are highly correlated with the movement of the business cycle and economy. When the economy is good, people paid well, and spend more money on goods like a car and other automobiles. Businesses grow during good times. They buy equipment and build new facilities to expand their business operations. This is what makes equipment and construction stocks also cyclical stocks.

Similarly, when the economy is not performing well, people lose their purchasing power and many companies run off the inventory, put off expansions, and delay purchases.

What are Non-cyclical Stocks?

Non-cyclical stocks also known as defensive stocks. Non-cyclical stocks perform really well in downturns in the economy. It is because the demand for non-cyclical companies continues regardless of the economy.

The best example of non-cyclical stocks is utility stocks. Everyone needs gas, electricity, and water. When the economy is shrinking these stocks tend to rise however when the economy rise, these stocks tend to lag behind. By investing in non-cyclical companies, an investor can avoid big losses.