Cyclical stocks are exactly what they sound like they would be in that they follow a cycle. In the case of cyclical stocks, the cycle in which they follow up and down is the economic cycle. So, being invested in cyclical stocks can be like riding the giant Farris wheel at the fair. You may be at the top of the world looking over everyone and everything on minute and at the bottom the next. All and all, you want to get back to the top as soon as possible.
In a similar fashion, being invested in a cyclical stock can have you on top of the world one day and at the bottom the next. The main difference with the fair and the stock market is that with cyclical stocks, you could be waiting months or even years before you get back to the top.
These types of stocks are usually found in a lot of different industries such as the auto industry, airline industry, and hotel industry. This is because when the economy is good, people have all sorts of extra money to spend on new cars, plane tickets, and hotel stays. However, when the economy is bad, they do not have the extra money and these industries tend to suffer.
When I was a stock broker, I often had clients that would mistake a cyclical stock for a growth stock. Cyclical stocks differ from growth stocks in that they totally rely on the economy to drive them up or down. With growth stocks, the economy may be bad, but these companies will still churn out consistent profits. Even if they are lower than normal, they are still making a buck. However, with a cyclical stock, when the economic cycle begins to dive, so too do the cyclicals, no matter what the company name is.
Investing in cyclical stocks can be very rewarding as they will often outpace the gains of even the best growth companies when economic times are good. On the other hand, if economic times are bad then they can also lose quite a bit more than the growth stocks. So, investing in cyclical stocks is really all about timing.
If you get in the cyclical stock game when the economy is about to take a turn for the better, then you can make a lot of money with cyclical stocks. On the other side of the fence, if you get into cyclical stocks when the economy is getting ready to head down, then you can lose a lot of money in cyclicals. If you are considering investing in any cyclical stocks, then I suggest that you talk with your financial advisor first and discuss all the ups and downs (no pun intended) of cyclical stocks.
Source: Investopedia, Cyclical Stock Definition, Investopedia.com