EVERY NEW YEAR brings with it untold opportunities and possibilities in every ream of life and the investing sphere is no different. While you may have tried your hand at a variety of investment styles such as value investing, growth investing, dividend investing, and index investing among others, have you ever attempted business cycle based investing? If not, then 2024 could be a great year to try this probabilistic analysis based investing strategy which is slowly yet steadily picking pace in the economic ecosystem.
What is business cycle investing?
Investors who practice business cycle investing tend to keenly observe the ebb and flow of economic activity, known as the business cycle, while adjusting their investment strategies accordingly. This involves tweaking sector exposure within their portfolios based on prevailing economic conditions―for instance, during economic expansions, certain industries thrive, whereas others fare better during contractions. Therefore, the business cycle―tracking a nation’s economic expansion and contraction phases―mirrors the fluctuations in gross domestic product (GDP) and overall economic activity, which tend to be impacted by everything from workforce productivity, population growth, and technological advancements to external events.
Cycles and sectors at play
While business and market cycles are often used interchangeably, they measure distinct aspects; the former assesses overall economic health, while the latter gauges stock market fluctuations. The business cycle operates in stages, spanning periods of expansion and contraction, with the four primary stages including recession, early cycle, mid-cycle, and late cycle. Each phase, with varying durations, presents unique challenges and opportunities for investors. Industries react differently to these phases, with certain sectors demonstrating resilience or prosperity. For instance, sectors such as health care, consumer staples, and utilities tend to weather recessions well due to constant demand, while early-cycle expansion sees growth-oriented sectors like retail, construction, and financial services thrive, buoyed by increased spending and borrowing.
Is it right for you?
Now that you know the concept of business cycle based investing, we come to the question of whether or not this strategy is the right fit for your requirements. Business cycle investing entails predicting shifts in the business cycle and adjusting asset allocation accordingly, aiming to capitalise on assets’ performance across different phases. Investors who follow this strategy might purchase stocks during economic expansions and divest before the peak in anticipation of a downturn.
While potentially lucrative, this active approach demands constant monitoring of economic indicators and market trends, as timing the market accurately poses challenges. Therefore, this strategy is best suited for investors with the time and risk tolerance to navigate market cycles adeptly. Conversely, a long-term buy-and-hold strategy, preferred by some, eschews market timing, emphasising minimal portfolio adjustments over time. This strategy, while less hands-on, prioritises stability and may be better aligned with the risk preferences of investors.
Business cycle investing in 2024
Business cycle investing is a suitable strategy for 2024 and beyond as this investing style adopts a top-down approach, analysing how broader economic cycles impact markets, sectors, and individual stocks. Over the next half-decade, and probably further, chances are high that central banks, and their monetary policy movements, will likely steer markets, underscoring the significance of macro-oriented investing. The importance of top-down investing became apparent in the past two decades, with a global liquidity surge lifting stock markets from 2003 to 2007, followed by the global financial crisis causing a sharp downturn. In India, the government’s response to the 2008 crisis initially spurred growth until 2012, but it eventually led to challenges like high inflation, currency depreciation, and a cycle of non-performing assets (NPAs), persisting for years.
Across these and more such scenarios in the future, business cycle investing has the potential to ensure portfolio robustness, as investors pay more attention to the macros at play and pick stocks based on their ability to perform optimally even amid economic shocks.
Dhanya V.R., CFP, is MD, Wealth Plus Financial Solutions.