What are cyclical stocks? What should be my investment strategy for them?
The shares of companies that are very sensitive to economic and business cycles are generally called cyclical stocks. These tend to perform very well during an economic upswing as companies they represent face robust demand for their products or services due to higher consumer spending. However, during economic downturns, these companies face shrinking demand and lower profitability. Examples of cyclical industries are metals, cement, automobiles, realty, etc, where demand tends to fluctuate according to the economic situation, as opposed to defensive industries like healthcare or pharmaceuticals, where discretionary demand will tend to be very inelastic, irrespective of the economic situation.
Cyclical stocks would tend to rise ahead of any economic recovery and would continue to rise during the economic upswing, peaking out earlier than the beginning of the economic downturn. These stocks are generally quite volatile, but could give superior returns over the broad market if the economy continues to outperform, as is generally expected. However, since most cyclical stocks have seen substantial run-ups over the last year, one should be very careful in selecting stocks that still hold value and could provide decent returns.
With RBI giving a fillip to the infrastructure segment, do you think that one should look at these stocks? What should be the timeline?
The economic growth of India has to be accompanied with massive growth in infrastructure. RBI’s recent policy review gave additional benefits to the infrastructure sector, especially highway and road projects. This augurs well for the industry. One should definitely have some quality infrastructure stocks in their portfolio. However, since most infrastructure projects have long gestation periods, one should not invest in them for the short term, since the full benefits of investing in these companies would be realised once their major projects are up and running.
I am a high networth individual. I am getting calls from my fund house that they have structured products that will give me better returns than stocks or mutual funds. What is your view?
The term ‘structured products’ is very broad and can encompass a large variety of products and, thus, I do not know exactly which structure you are referring to here. Generally, they are specific products that are created to meet certain investment needs that cannot be met by standardised products. Structured products are generally a mixture of derivatives on certain products as well as their underlying – like stocks, bonds and options – and have risk-reward structures that can vary from capital protection to higher risk-return strategies.
Structured products would not necessarily given better returns than stocks or other equity funds. A large part of structured products that have been launched in India over the last few years ideally have certain inbuilt conditions that would normally provide the investor an index or equity-linked return, albeit to a limited extent, sometimes even on the downside, with capital protection. However, these products are a different asset class, which mostly also invest in bonds and cannot be compared to investing in equities or equity funds, since their risk-return profiles are quite different.
The writer is director, Touchstone Wealth. He and his clients may have exposure to the sectors discussed in this column
