Timing market cycles is notoriously difficult for investors. But the potential rewards are significant. Even large, well-established cyclical businesses can see huge share price swings over the course of a cycle – falling by 50% and then doubling (or more) is not unusual.
Right now, I think it’s fair to say that the real-world economy is still in the early stages of a recession – if indeed that’s what we’re going to get. But the stock market always looks forward. Share price action often precedes cyclical changes in profitability.
In my long-term portfolio, one of my priorities is to try and make sure I don’t inadvertently buy stocks at cyclical highs. Worse still, I don’t want to find myself on the downward leg of the cyclical rollercoaster.
With cyclical stocks, my aim is to try and buy them at valuations that are attractive on a through-the-cycle view.
Stockopedia’s screening system gives me access to a huge amount of historical financial data. Using some simple screens, I can easily slice and dice this data to test out different hypotheses and identify potential opportunities for further research.
This week I’m going to take a look at the valuations of some of the most cyclical and dirty sectors of the market – energy, mining, and industrials. These are businesses which play an essential role in keeping the world turning, but whose fortunes are often interlinked and subject to strong cyclical forces.
Screening criteria
When building a stock screen, there’s often a temptation to use too many narrowly-defined criteria. In theory, this might produce the ultimate stock selection. However, real life rarely displays the neat patterns and perfect consistency that would be required for this to work.
One of the key ways I use screens is to narrow down my investable universe to a manageable size. With 2,000+ stocks on the London Stock Exchange, I can’t possibly research them all. But some carefully chosen screening criteria will reduce the number of stocks I need to consider to perhaps a few dozen.
I tend to keep my screening criteria fairly loose. I’ll then use the results of the screen as the basis for further targeted analysis.
To look for sectors displaying signs of cyclical value, I’ve built a screen using the following criteria (you can view the screen here):
- Sector: In this case, I’ll be looking at energy, basic materials…
