What are cyclical and defensive sectors?
Stock market sectors react differently to the economic cycle. Cyclical sectors sell things that people and companies buy more of when the economy is strong and cut back on when it weakens. Defensive sectors sell things that are needed in good times and bad. The split explains much of how a portfolio behaves in a boom and in a recession.
Which sectors are which
| Cyclical | Defensive |
|---|---|
| Consumer discretionary (cars, travel, luxury goods) | Consumer staples (food, household products) |
| Industrials (machinery, transport) | Health care (pharmaceuticals, medical devices) |
| Materials (chemicals, mining) | Utilities (electricity, water) |
| Financials (banks, insurers) | |
| Energy |
Technology and communication services are harder to place: some parts, such as chip makers, are strongly cyclical, while large software and platform companies have become steadier. Real estate depends heavily on interest rates.
What the difference looks like
A sector's sensitivity to the market as a whole is captured by its beta:
Cyclical sectors typically have betas above 1: they fall further than the market in downturns and rise further in recoveries. Defensive sectors typically have betas well below 1.
A simple illustration
In a year in which the broad market falls 20%, a cyclical sector with a beta of 1.3 might fall around 26%, and a defensive one with a beta of 0.6 around 12%. In a recovery year with a 25% gain the order reverses: roughly 32% for the cyclical sector against 15% for the defensive one.
A portfolio split 70% cyclical and 30% defensive behaves like one with a beta of:
How to read a portfolio's balance
- Compare with the market. The world stock market leans cyclical: the classic defensive sectors — consumer staples, health care and utilities — make up only around a fifth of it.
- A strongly cyclical portfolio does well in expansions and suffers more in recessions.
- A strongly defensive portfolio is steadier, but tends to lag in strong markets.
Limits
- Defensive does not mean safe. Defensive stocks still fall in a general sell-off, usually by less. They can also suffer when interest rates rise sharply, because their steady dividends then compete with higher bond yields.
- Categories shift. Industries change: parts of technology behave defensively today, and some consumer companies have become more cyclical.
- Betas are estimates. They are measured over past periods and change with the economic environment.
Related topics
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