Business cycle components & related investment strategies

One can relate business cycle with ECG (Electrocardiogram). Flat line indicates that economy is dead. No business in the world economy has a flat trajectory. Businesses have periods of economic expansion and contraction. Rather, the economic environment is dynamic than being static. Domestic as well as global economy has far-reaching effects on businesses.

What is a Business Cycle?

Production is the process of manufacturing outputs from the raw materials. The business cycle is the natural expansion and contraction of both productions of goods and services over a period of time. It can be said to be the economic rise and fall of a firm in the economy.

Every firm will go through the cycle. It is impractical for a business to have a constant growth or decline over its life cycle. There are always ups and downs during economic activities of the firm.

With globalization and liberalization, the business cycles play cardinal role in India too.

Stages of Business Cycles

Business cycle consists of four distinct phases:

1. Recovery, i.e. expansion or upward movement.
2. Boom, i.e. peak.
3. Contraction, i.e. downward movement.
4. Recession, i.e. depression or burst.

The impact of a Business Cycle

Recovery Phase

• Increasing of investment & spending:
• Increasing consumer spending:
• Increasing company profits;
• Increasing money wages;
• Rising employment opportunity; &
• Increasing national income, etc.

Boom Phase

• Economic indicators reaching peak before declining;
• High level of employment opportunities;
• Faltering of business optimism;
• Loosen in the rate of investment activity;
• Higher costs for business firms; &
• Indication of unfavorable trends in international business, etc.

Contraction Phase

• Reduction of national income;
• Reduce in company profits;
• Reduce of price level; &
• Decrease of wage level.

Although span of business cycles is variable, we must have information that it’s a cycle, unlike a viscous circle. A developing economy is certain to overcome a gloomy phase (cycle)- it’s a matter of time.

Recession Phase

• Low levels of public and private investments;
• High level of unemployment;
• Lack of investment opportunities as expectation of profits are negligible;
• Stunted foreign investments due to lack of confidence in domestic economy;
• High level of liquidity preferences;
• Diminished output levels in secondary industry (manufacturing industry), although outputs in primary industry (eg. mining, forestry, agriculture) may increase; etc.

Pivotal role of financial planning processes in any phase of business cycle

All the phases are inexorable. Neither can any investor nor can any financial planner control market movements. Therefore, a financial planner addresses a client’s unique factors while setting strategies to tackle business cycles. Factors include the following:

• Financial goals – defined goal amount, time horizon, & priority;
• Cash flow (income & expense);
• Health & age;
•  Risk taking capacity and risk tolerance level;
• Net worth;
• Family structure
• Personal asset & investment asset;
• Commitment & responsibilities towards family/ potential dependent
• Insurance coverage (both life and non-life); &
• Contingency fund etc.

Business cycles have its own distinctive characteristics. The impacts of such phases are unrepeated at times. This is where investors are deluded. Being open to market noise and the fallacious tendency to follow others in investing may limit your chances of achieving the prioritized financial goals within stipulated time.

There are innumerable factors (personal and economic) which a planner considers before formulation and implementation of strategies during specific phases of the business cycles. Investments you make are time specific. As Financial Advisor in Kolkata, we have to assume expected rate of return by critically analyzing readiness to take risk, your risk tolerance level and your tax bracket.

It is not out of place to remind that the more you seek return, the more you’re exposed to risk. Risk tolerance is an important component. You should have a realistic understanding of your ability and tolerance level. As Certified Financial Planner in Kolkata, we stress on asset allocation based on risk profile and time horizon. We avoid reckless investing. We intend to take you safely at your goal(s). It’s very difficult, rather impossible to time the market. Reacting to different phases of business cycles in an unplanned manner may increase the distance between you and your financial objectives.

Right asset class at the right time

Selecting the right asset class during business cycles is decisive part in wealth building. Your financial planner should take the necessary steps while managing your investment portfolio. Any phase of business cycles demands investing as per asset allocation strategy. This approach adds value as part of investment strategies. Every business cycle is indifferent, but certain patterns may/may not repeat themselves over time. In every investment, there are two types of inherent risks- systematic and unsystematic. Proper and subjective asset allocation will enable you to face any business cycle. As Fee Only Financial Planner in Kolkata, we believe that action-plans during business cycles are suitable when they are tailor-made.

Thus, it is wise not to react, but to respond rationally to different phases of business cycles. Financial planning processes are tailored according to your situational requirements.

Therefore, it is always advisable to consult a CERTIFIED FINANCIAL PLANNER^CM & a SEBI Registered Investment Adviser before intend to make any investment towards your specific goals. Random or experimental investing can never create wealth for you.

Financial planning processes revolve around you and your needs. As Arijit Sen is a SEBI Registered Investment Advisor in Kolkata, we make our clients aware of personal financial aspects thereby assisting them to make mindful financial choices.