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Ride Cyclical Resurgence With This Relative Weight ETF

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Cyclical stocks are to be avoided when a recession is starting, but when there are signs of that condition, cylicals can work for investors.

What Happened: Predictably, cyclical stocks were drubbed during the March market selloff amid fears a lengthy recession was soon to set in. That scenario weighed on the Direxion MSCI USA Cyclicals Over Defensives ETF (NYSE: RWCD).

As its name implies, RWCD is designed to capitalize on strength in cyclical stocks – consumer discretionary, financial services, materials and real estate – while also benefiting from defensive stocks lagging cyclical rivals.

Why It's Important: RWCD follows the MSCI USA Cyclical Sectors – USA Defensive Sectors 150/50 Return Spread Index and the current state of cyclicals and the broader economy indicate the exchange traded fund could be a solid near- to medium-term idea.

“U.S. economic data released in August generally exceeded consensus forecasts in the realms of both manufacturing and services, with surprising strength in job gains,” said BlackRock in a recent note. “Housing data was also strong last month, with both new and existing home sales coming in above consensus expectations.”

Indeed, pockets of strength within the cyclical universe are emerging, including homebuilders, materials names and plenty of consumer discretionary equities.

“The vigor of this recovery provides a catalyst for cyclical stocks to start closing their historically wide performance gap with growth,” according to BlackRock. “Year-to-date through August 31, global industrial stocks are still down by -2% while the MSCI World Index has risen by 5.3% and the S&P 500 Index is up 9.7%.”

What's Next: A compelling element to the RWCD thesis is that it's no heavily reliant on traditional cyclical sectors beyond an almost 23% weight to consumer discretionary names. Rather, the bulk of its 150% long exposure comes by way of the super sensitive sectors. RWCD allocates almost 80% of its weight to technology and communication services stocks. That growth exposure could serve RWCD investors well.

“While the current economic recovery supports cyclicals, this is not the time to take broad strokes across all cyclical sectors,” according to BlackRock. “Investors seeking to capture these opportunities must be highly discerning and avoid low quality and secularly impaired value stocks. We favor segments that provide niche services with long-term pricing power as well as companies that exhibit earnings consistency and stable profitability. Another tactic is to look for opportunities at the intersection of cyclical and secular growth, such as semiconductor companies.”

 

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