Understanding secular vs cyclical

March 18th, 2008

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One of the most important distinctions that investors have to understand is the difference between secular and cyclical trends. Confusion between the two can result in lost profits or worse still, losses. Before we can give examples of secular and cyclical trends, let us begin with definitions from the Encarta® World English Dictionary:

Secular – occurring only once in the course of an age or century; taking place over an extremely or indefinitely long period of time

Cycle – a sequence of events that is repeated again and again, especially a causal sequence; a period of time between repetitions of an event or phenomenon that occurs regularly

All of us understand the concept of cyclical trends. The four seasons is a fine example- winter comes and goes and it will come back again. For the economy, booms are followed by busts, which are followed by booms again.

Secular trends, by definition, are far less common. An example of a secular trend is the falling trend of film photography. With the advent of digital photography, the usage of film in photography is in terminal decline- it will never rise again and film photography will eventually be consigned to history.

Now, let us introduce more complications into the picture:

  1. Sometimes, within a larger secular trend, there are cyclical sub-trends. For example, due to inflation, house prices will rise in the very long run, keeping place with inflation. But in the short to medium term, there are periods of price inflation and deflation.
  2. The converse is also true- within a cyclical trend, there may be secular sub-trends. For example, when you look at the history of the Chinese civilisation, you will see repeated cycles of dynasties- birth of a dynasty, growth, decay, fall and then birth of a new dynasty again. But within a dynasty, you will find trends that last more than a person’s lifetime, which is secular as far as that person is concerned.
  3. Sometimes, a secular trend is really a secular trend. For example, the decline and ultimate fall of the Roman Empire happened once in history and will not be repeated again.
  4. Sometimes, a cyclical trend is really cyclical. The four seasons is the best example.

How is all these abstract philosophy relevant to an investor?

Well, it is one thing to understand the difference between the two in our heads and another thing to act accordingly. For example, after more than 15 years of non-stop expansion in the Australian economy, there are many people, who through their investment decisions, believe that the business cycle is finally abolished. That explains: Why are the majority so wrong at the same time and in the same ways? To have a good perception of the nature of trends, we have to understand and look at the big picture and have a grasp of time frames that can go beyond our memory and even life-time.

So, in the coming articles, we will apply this understanding in the context of real-life investment decisions.

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