What is a Countercyclical Stock?
A countercyclical stock is a stock whose price tends to move in opposition to the overall business cycle. When the market rises, the stock price falls, and when the market falls, the stock price moves higher.
How Does a Countercyclical Stock Work?
Cyclical stocks perform well when the economy is slowing. As jobs become scarcer, wages stagnate, and consumers generally have less disposable income, they tend to limit their purchases of cars, travel, and new houses and often shift to cheaper versions of desired items or experiences. Consumers instead shop at cheaper stores, eat at cheaper restaurants, buy cheaper cars, and sometimes start falling behind in the bills.
The companies that offer products or services in these areas therefore tend to do well during recessions or economic slowdowns. This is why discount retailers are considered countercyclical stocks, as are alcoholic beverage producers and debt collectors.
Why Does a Countercyclical Stock Matter?
As the economy slows, countercyclical companies grow. But countercyclical industries can really suffer during expansions (which can last for years), and companies in these industries are prone to bankruptcy if they don't have the cash or strong balance sheets necessary to weather a long economic expansion.
Investors attracted to stocks in countercyclical industries are faced with the arduous task of trying to time the market--that is, to predict where the bottom of the business cycle is in order to sell at the optimal time and then predict where the top of the cycle is in order to buy at the optimal time. This can be hard, given the fact that some countercyclical stock s start sliding before a recovery has actually begun.