Are We Headed Toward a Recession?

Wow! What happened this past week? We went from a nice uptrend in the market to a huge spike in volatility leading to one of the biggest market declines of 2019. On Wednesday, the S&P 500 was down close to 3% in a single day.

The inverted yield curve and the escalating trade war between the US and China caught most of the headlines and the blame. Below I’ll provide some perspective on the markets and why you shouldn’t be quick to hit the panic or the sell button.

The S&P 500 or the “the market” has enjoyed an upswing of around 15% year-to-date. This of course was off the back of an 18% correction toward the latter part of last year so a lot of investors are actually flat for the past twelve months.

Bullish Case

The bullish (positive) take on the market and economy is that we have an unemployment rate at a 50 year low and GDP growth above 2%. Corporate earnings are still very healthy and interest rates are low.

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The market tends (not always!) to be a leading indicator on the health of the economy. Ten of the eleven market sectors are positive year-to-date while only the fossil fuel energy sector has been negative. Side note: Impact Fiduciary is proud to avoid the climate change inducing and money destroying energy sector in all of it’s managed portfolios.

Bearish Case

The market violently sold off on Wednesday because the yield curve inverted for the first time since 2007. This means that investors could actually get paid more interest on short term treasuries than by holding longer dated ones. Here is an easy to understand article describing why this is so negative: The Inverted Yield Curve and What It Means for Your Money

Why does this matter? The inverted yield curve is an extremely powerful and accurate economic indicator. It has preceded almost all of our past recessions.

Never Ending Trade War

Just a week prior to the yield curve inverting Trump decided to escalate the trade war with China by increasing tariffs on their imports. This is basically a tax on the middle class and makes it more expensive to do business with one of our biggest trade partners. China responded in-kind by weakening it’s currency in order to lessen the impact of the tariffs.

Head for the Hills?

Does this mean that everything is going to come crashing down? Should you sell all of your stocks and head for the hills? Absolutely not!

First of all, the inverted yield curve doesn’t guarantee a recession. It is just one of many economic indicators, although it does have an impressively accurate track record. Also it’s important to note that a recession doesn’t necessarily have an adverse effect on the markets right away, if at all. 

Recession = Market Downturn?

S&P 500 performance before, during and after recessions. A recession doesn’t necessarily coincide with a market downturn!   Source: www.awealthofcommonsense.com

S&P 500 performance before, during and after recessions. A recession doesn’t necessarily coincide with a market downturn! Source: www.awealthofcommonsense.com

You could sell all of your positions today and then watch the market rally for the next two years before the recession actually hits. Even if or when the recession does take hold it doesn’t necessarily mean the stock market will decline. Since the 1940’s the market has actually increased during six of the past eleven recessions! Check out the graph above.

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However, most investors will point to the last two recessions which coincided with the dot-com bust and the financial crisis. They are still fresh in the memory and in both instances the markets were sharply down resulting in painful losses.

At the very least the inverted yield curve points to a heightened level of risk and market uncertainty which means you should expect more days like Wednesday moving forward.

What Now?

So what should you do? This is a great time to reassess your risk tolerance and portfolio goals. Maybe your time horizon has shifted from when you initially started investing. Or maybe you’d just prefer a smoother glide path. One thing is for certain. It’s not worth losing sleep over your investment portfolio!

As always please let me know if I can answer any questions or help in any way.

Disclaimer: This article is provided for general information and illustration purposes only. Nothing contained in the material constitutes tax advice, a recommendation for purchase or sale of any security, or investment advisory services. I encourage you to consult a financial planner, accountant, and/or legal counsel for advice specific to your situation. Reproduction of this material is prohibited without written permission from Patrick Dinan, and all rights are reserved.