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What Are Cyclical v. Defensive Stocks?

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What is the difference between cyclical and defensive?

Cyclical companies are those that see higher revenue growth when the economy is growing and lower revenue growth - sometimes contractions -- when the economy is in recession.

Defensive companies keep humming along whether or not the economy is growing.

Okay, that sounds a bit complicated. How does that all actually work?

Let's use an analogy first before we dig into this.

Your kid, or your nephew or your niece is growing.

This kid is getting larger and will need bigger clothes and more food with an increased appetite. The fridge gets fuller and the clothes in the kid's room get bigger.

The economy kind of behaves the same way.

Let's say unemployment drops and wages rise. People have more money to spend. They'll likely have a little extra cash to spend and they'll buy what we call 'discretionary' goods, or goods that people don't need but that they want.

They'll buy more fancy coffee, go to restaurants to eat, buy more clothes. Consumer discretionary stocks like restaurants, food shops, retailers, apparel makers might perform well.

Also, industrials will do well. With more economic activity comes more building, more demand for construction, more demand for equipment to build things, more demand for materials and commodities like metals and oil. 

People make less money? Less activity ensues? Consumer discretionary, industrials, materials, oil will get dragged down. Banks and financials, who finance this activity will also get dragged down on lowered demand for capital.

But what about those defensives?

To see that part, watch the video above. 

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