CYCLICAL VS. NONCYCLICAL INVESTMENTS (FINANCIAL FOCUS)

If you follow the financial news even casually, you probably know that, over the past year or so, the Federal Reserve has raised interest rates several times in an attempt to contain inflation and "cool off" the economy. But what exactly does a slowing economy mean to you -- and your investments?

Before you can answer his question, it would help to know what it means when the Federal Reserve tries to slow the economy. By raising interest rates, the Fed makes it more expensive for companies to borrow, which has an economic "domino" effect. Companies have less access to money to expand their operations, which means they hire fewer workers. Consequently, wages don't increase as rapidly, which means there's less "wage inflation." At the same time, higher interest rates will typically lower consumers demand for new homes, cars and other capital goods. Again, the result is lower inflation.

Declining production and consumer demand will help lower inflation, but they'll also have an impact on another area -- your investments.

Specifically, those companies that depend upon heavy consumer spending are more likely to be hurt when the economy cools down. These "cyclical" companies are found in the housing, retail and automobile industries. During an economic slowdown, consumers often delay purchasing new products in these areas. Also, companies that produce basic materials -- such as chemicals, paper and aluminum -- often see a decline in earnings when the economy slows.

Noncyclical industries are generally more immune to rising interest rates and a slowing economy. Noncyclicals include food, drugs, tobacco and beverages -- items that people typically buy in good times or bad.

Thus far, we've looked only at stocks. What happens to bonds when the economy cools off? For one thing, if a slowdown begins to hurt a wide range of stocks, investors may turn to bonds, viewing them as a safer alternative, thereby driving bond prices up.

Also, if the slowdown is accompanied by low inflation, that's good news for bondholders because the flip side -- higher inflation -- is a threat to bond prices. Why? Bonds provide a fixed interest rate, so, in periods of high inflation, the purchasing power of your bonds will drop. Furthermore, if rising inflation is accompanied by higher interest rates, bond prices could suffer. If, for example, new bonds pay a 7 percent interest rate, and your bond only pays 5 percent, then, if you want to sell your bond before maturity, you will have to do so at a discount, because no one will pay full price for the lower yield.

Before you make big changes to your portfolio in response to an economic slowdown, remember one thing: For most slowdowns, there's usually been a rebound at some point. So don't abandon your long-term financial strategies. Look for high-quality investments and stick with them. And above all, don't lose sight of your objectives. If you can discipline yourself to look beyond the temporary downturns, you've got what it takes to become a successful investor.

This "Financial Focus" column is prepared by Edward Jones Investments, headquartered in St. Louis. Jones includes branches throughout the nation, including Cape Girardeau and Jackson.

The Southeast Missourian does not recommend that readers buy or sell stocks featured in this column, which is provided for informational purposes only.