The suffix itis denotes a physical malady characterized by inflammation: bronchitis, rhinitis, gastroenteritis, etc. If your doctor diagnoses you with something -itis, she might then recommend a treatment aimed at reducing the inflammation. Perhaps the goal is to make you more comfortable, or to reduce the inflammation because it’s negatively affecting one of your body’s systems. Recessionitis isn’t a real thing, of course. But the analogy works: the more we hear about recession, the more wary we become about an inflamed sense of dread leading to discomfort and – worse – bad investment decisions. In this blog we offer two corrective points and a solution that we hope will alleviate Recessionitis symptoms you may be feeling.
Point 1: Recessions are Not Equal
The business cycle is a fixture of market economies, but the depth of troughs is not uniform. Because the 2008-09 recession was the most recent and because it was worse than most, it serves as a reference point for investors. Over the three quarters following September 2008, US GDP contracted from $14.84 trillion to $14.35 trillion, or -3.3%. Technically, the U.S. did not have a recession in 2001, as GDP was flat during the June and September quarters (the classical definition of recession is two or more quarters of negative GDP growth). Similarly, during the 1990 “recession” GDP contracted during only the December quarter. One of the factors that made 2008-09 so severe was the credit crisis: this wasn’t just a normal cyclical downturn; bank capital cushions were insufficient, which begat a larger financial crisis.
Today banks are far better capitalized and are stress-tested. We also enjoy a historically low unemployment rate, and U.S. consumer spending (~70% of the economy) remains strong. Interest rates are low, which is good for credit and capital formation. We don’t know when the next recession will occur, but even if it happens in the next two or three years, we see no reason why it would resemble 2008-09.
Point 2: Timing Investment Decisions Around Recessions is Foolish
Hypothetically, if the U.S. has a recession in the second half of 2050, economists would not know that a recession occurred until roughly midway through 2051. Worse yet, the negative reaction in capital markets would precede the recession, because stock and bond markets are reliable leading indicators.
Market timing – deciding when to be “all-in” or “all-out”of the stock market – is a fool’s game. Capital markets are not perfectly efficient but are nonetheless very quick to price in changes – quicker than you or we are. But even if you were to pick the absolute best time to sell, you would also ultimately need to pick the right time to get back in. We know of investors who panicked in 2009 and have spent the entire last decade waiting to get back in and missed a 3.5x recovery from the bottom.
Solution: Time Investment Decisions Around Your Individual Goals
Imagine an investor who planned to retire on March 9, 2009 and was invested 100% in stocks at that time. Spending money from a stock portfolio at that point – the absolute low of the bear market – would have been disastrous, permanently impairing spending in the future.
As we described in The Two Times Volatility Matters, recessions and stock market corrections need not bother you. If volatility does not keep you awake at night, and you don’t need the money in the next 5 years, you’ll be far better off continuing to save and not thinking about the market when it’s weak.
However, if you’re within 3-5 years from the time when you expect to spend the money, you should begin building a fixed income allocation. High quality bonds provide income for spending, and the predictable return of principal at maturity. If the hypothetical investor above had owned some bonds on March 9, 2009, he could have used that allocation for spending, and allowed the stock side of his portfolio to recover. As painful as that market was, the S&P 500 recovered fully by August 2012.
Recessions and stock market downturns are facts of life. But don’t let anyone convince you that you can time them or should make investment decisions around them. Instead, understand that saving and staying invested are your strongest cards, and be sure you make your investing decisions around your goals and timelines, not others’ fears.