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The Cody Blog: Cody on RM: Cycling Through Cyclical Trade Ideas

Wednesday, August 09, 2006

Cody on RM: Cycling Through Cyclical Trade Ideas

Cycling Through Cyclical Trade Ideas
08/08/2006 9:44 AM

The Fed and oil. The Fed and oil. Throw in a little housing weakness and some geopolitical bad news and you've about got this week's headlines, nay, obsessions, in a nutshell. The economy's weakened -- or so everyone tells us, after the market started telling us that months ago. Perhaps there's some arbitrage in what's been priced in disparate cyclical sectors as the headlines and the markets converge.

The bad news is that those headlines are indeed bad news. The good news is that at some point (perhaps right now?), when those headlines truly become obsessions of Wall Street, they'll already be more than priced in. That's one of the biggest problems with the bear thesis: The shocking decline in such stocks as the semis, specifically Intel and Broadcom, has already priced in a lot of bad news. Of course, those stocks that Wall Street considers for some strange reason more purely "cyclical" than semis, such as Caterpillar and Phelps Dodge, haven't come down nearly as much.

That huge gap of relative outperformance in the traditional cyclicals vs. the more volatile tech cyclicals probably has to close somehow. And that likely means that either the semi's are screaming buys or the old world cyclicals are screaming shorts. Perhaps there's a sweet paired trade to be made by going long the tech cyclicals and short the traditional cyclicals. Of course, if the economy sputters and the sell through in the semi's really falls off, those stocks would have a lot more downside to them -- probably even more than the downside in the traditional cyclicals in such a scenario.

I keep working on ideas like this, but I keep ending up deciding that the risk/reward isn't compelling enough just yet. Thus, more patience is required.


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