A cyclical stock is equity security. The price of this type of stock is easily affected by macroeconomic (or the systematic changes within the country’s economy). Cyclical stocks are popular for following the cycle of the country’s economy, through recession, recovery, peak, and expansion.
Commonly, these stocks belong to the companies that sell discretionary items. These are the items that consumers can afford only during the booming economy. Or, these stocks also belong to companies that produce things consumers spend less during a recession.
Defining Cyclical Stock
The example of companies with this type of stocks are airlines, car manufacturers, furniture retailers, hotels, and restaurants. During a good economy, many people have the power to purchase cars, upgrade their homes, and travel.
However, once the economy does poorly, these expenses are the first things people cut, first. When a recession becomes more and more severe, cyclical stocks can be completely worthless. At worst, this company can go bankrupt.
These stock rise and fall following the economic cycle. With this predictability on the price movement, investors want to time the market.
These investors purchase the shares on the low point of the business cycle, then sell them during the high point. Therefore, investors need to really careful in allocating this stock within their portfolio. Yet, that does not mean investors should avoid these stocks.
Special Consideration
Many investors think that these stocks are more volatile than defensive stocks or non-cyclical. Defensive stocks are more stable during the weak economy.
Yet, cyclical stocks offer greater potential growth. That is because this stock has the ability to outperform the market once there is a strong economy. Usually, investors wanting a long-term growth with managed volatility like to balance their portfolio with a mix between the defensive and cyclical stocks.