Stock Sector Classifications: Defensive vs Cyclical

Stocks can be classified in different ways. One specific way is to classify stocks by type of business. The companies which are involved in the similar business are placed in a definite group so that it would be possible to compare the companies easily. These groups are called sectors by most analysts and media. In this way it is easy to hear how a certain sector is doing. The most popular classification of stocks comprises eleven sectors. Two of them are considered to be “defensive” and nine others are called “cyclical”. What does this mean for an investor?

Defensive stocks are stable because the companies of these sectors offer staple goods that are always saleable. As people don’t stop eating or using energy, these companies don’t suffer much when a market downturn takes place. These sectors tend to maintain a balance in portfolios when a market is falling. Nevertheless, taking into account the stability of these sectors, we have to remember that they don’t climb proportionately if a market is rising. This is because people don’t buy more food or use significantly more energy. Basically, you get what you pay for as the name of these sectors imply. They are a good cushion if you need a soft landing when a market is falling. The second group consists of nine sectors. These are transportation, capital goods, technology, financial, consumer cyclical, communications, basic materials, health care and energy (other than basic needs). These sectors depend on many market conditions which may cause them to rise or to fall. It is even possible that when one sector is going up another one may be going down. The reason why they are called cyclical is because they move up or down due to the direction of businesses cycles. If a particular business is going up than this sector is likely going up as well.

How can we apply this knowledge? First of all these sectors are used as comparison tools. However, it is not enough to compare sectors only. It is necessary to compare stocks within one sector. This is of great help, because when you want to buy a stock you can use this sector information to see where the stock is compared to other stocks. While comparing your stock with other stocks, you might find out that your stock is 5 percent down while other stocks are 7 percent up. OR, it can be the contrary, your stock can be 9 percent up and the others are 5 percents down. In this situation you need to find out why this stock differs from other stocks. It is even possible that this stock is classified in the wrong sector.

Investing is all about the tools you can use to foresee the growth of the stock you want to buy. You can’t stay in dark making investment decisions. You need to know where and why to invest. This comparison can help you to see if the stock is going to be a loser or a winner. Compare and analyze before buying, even if the purchase is based on a tip from a friend.

The information supplied in this article is not to be considered as medical advice and is for educational purposes only.