Article
Why I Wait at Cyclical Bottoms Instead of Chasing Growth
Stocks and equity indices that receive the most attention in the media are showing increasingly lower returns when measured against the actual revenues or profits of the underlying companies. This discrepancy led me to start looking elsewhere, toward opportunities that are talked about far less.
Sector cycles and mean reversion
Over time, I have been paying more and more attention to sectors that follow a certain internal logic and exhibit relatively recurring cycles. Cycles that are visible both in market behaviour and in the development of accounting data. In some cyclical sectors, stock prices can fall all the way down to book value, or very close to it. At such moments, the balance between risk and potential return begins to change for me. Not because I expect a quick rebound, but because at these levels further declines often become less likely. What tends to be more probable is either a prolonged period of stagnation or a turning of the cycle. This tendency of prices to move back toward a long-term average after an extreme is what is generally called mean reversion. To be clear: I am referring here to the book value of companies across an entire sector. I am interested in the sector as a whole, not in individual companies, as company-specific outcomes are usually far less predictable.
I therefore focus on the sector as a whole and its recurring cycles. Moving capital between sectors as their cycles turn is what is often described as sector rotation. Time plays a crucial role in this approach. Waiting for a cycle to turn, watching prices move sideways for months or even years, is ultimately a matter of discipline and patience. On the surface, nothing particularly interesting seems to be happening, and that is precisely what many people find most difficult. Paradoxically, however, this phase is psychologically easier for me than constantly moving from one “growth opportunity” to another.
Concentration, patience, and contrarian timing
Before I began to observe these types of situations more systematically, I tended to diversify more broadly across different growth sectors. Today, when I see a logically cyclical opportunity and prices are hovering around book value, I am more inclined to concentrate a larger portion of my portfolio. Concentrating capital in sectors that most people are avoiding is, in essence, a contrarian and value investing stance rather than a growth one.
Some cyclical sectors can linger near book value for years. From a price perspective, it is therefore usually not too difficult to roughly identify a bottom. On the other hand, I never aim to predict tops. Sometimes a cycle results in a fifty-percent increase, at other times in several multiples. My goal is not to catch the maximum, but to exit with a reasonable profit.
Price-to-book versus price-to-earnings
When I compare this approach to investing in very expensive growth sectors from the perspective of price-to-earnings ratios (P/E), I sleep more peacefully waiting at a cyclical bottom than entering something trading at historically high valuations. Buying at historical lows in price-to-book ratios (P/B) is mentally easier for me than buying amid widespread euphoria (P/E highs).
I do not want to talk about specific sectors or instruments. I do not view this blog as investment advice, nor is it intended to be one. I do not recommend specific investments; rather, I write about how I think about markets, what strategy and tactics I use, and why they make sense to me. I am saving this text here primarily as a record of my own thinking.
Continuation: The Risk–Reward Principle I Did not Explain Clearly in My Article on Cyclical Opportunities
Disclaimer
This article is intended for informational and educational purposes only. It does not constitute financial advice, a recommendation to buy or sell any securities, or a guarantee of future market performance. The views expressed are solely those of the author, who may also be an investor. Investing in financial markets involves risk, and each reader should make their own decisions independently and, if necessary, consult with a licensed professional.
Summary
Common questions on this article's topic
What are cyclical stocks?
What is the price-to-book ratio and why does it matter for cyclical investing?
How does cyclical investing differ from growth investing?
How long can a cyclical bottom last?
Should investors try to time the top of a cycle?
Is cyclical investing suitable for everyone?
What is mean reversion in investing?
What is sector rotation?
What is contrarian investing?
If you have any thoughts, questions, or feedback, feel free to drop me a message at mail@richardgolian.com.
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