Most traders aren’t investment titans like Warren Buffet, but it is possible to make your savings grow through investing, with the right trading education and the right strategy for your profile. As a stock investor, you need to be aware of the different kinds of stocks you can use to build a strong and diversified portfolio, one that’s aligned with your trading strategy and risk appetite.
Choosing stocks for investing is therefore an extremely important decision. Whether you want to invest in Apple Stock, VRPX Stock, or Procter & Gamble, you will quickly realize that they often fall into two categories: cyclical and defensive stocks. So, let’s have a look at the differences and which ones are the best to invest in.
Cyclical and Defensive stocks – Definition
Cyclical stocks represent companies whose performance is impacted by macroeconomic changes in a given economy, as these companies tend to follow business and economic cycles in different phases, such as expansion, peak, recession, and recovery. Most cyclical companies include discretionary companies, selling non-essential products that consumers buy in a booming economy, but spend less on during a recession.
Defensive stocks are the opposite of cyclical stocks. They represent companies that perform well regardless of the overall economic health of a country. They either sell necessary products, or non-durable goods like food, power, and water.
Cyclical and Defensive stocks – Advantages and Risks
Because they follow the fluctuation of a given economy, cyclical stocks are more volatile, but they will perform well when the economy is also doing well. However, they will underperform when the economy starts slowing down, as people reduce their spending on unnecessary things when times are tough. Overall, they are considered to offer greater overall potential for growth and profits. Their volatility can also be a great tool if you’re an active trader looking to make quick profits, such as scalpers or day traders.
Defensive stocks tend to beat the market regardless of the economic stage or trend, which makes them great picks when the economy isn’t doing great. Because they offer steady revenue and dividends, these stocks are considered less volatile and less risky. They also offer less growth potential for profit over the long run. They tend to underperform when the economy is doing well and the stock market is rising, but they are safer investment options during hard times.
Cyclical and Defensive stocks – What are the best to invest in?
Because one of the best ways to reduce your overall risk when investing in the stock markets – and better perform during uncertain times – is to build a diversified portfolio. Therefore, you should add both types of stocks, cyclical and non-cyclical, to your portfolio. It is also important to take into account the stage of the economic cycle we’re in, so then you can pick the best companies in both categories. There are also different types of stocks you can focus on depending on your trading style and risk tolerance, such as blue chips vs. penny stocks, or growth stocks vs. value stocks, for instance.