Ask DWM: Is a Recession Coming? What Should One Do?

July 20, 2022

Very good questions. We may be in a recession right now.  One might be here later in 2022 or 2023.  Let’s first review the definition of a recession and what it normally looks like.  Then, we will look at where the economy is now – it’s complicated.   We’ll next discuss the impact of past recessions.  We’ll conclude with our recommendation on what you should do.

What is a Recession?  A recession is period of temporary economic decline during which trade and industrial activity are reduced.  It is generally defined by two successive quarters of reduction in the Gross Domestic Product (GDP). A typical recession is generally characterized by not only reduced economic growth, but lower corporate profits and higher unemployment. As company profits reduce, businesses lay off employees and workers then have less to spend which further reduces corporate profits and propels the recessionary spiral.

Where is the economy now? U.S. GDP was down 1.6% in 1Q22 as the economy slumped from the impact of Omicron and the fighting in Ukraine.  Estimates are that 2Q22 will show a loss of 1% in GDP (official results won’t be issued until September). So, we might be in recession right now.  However, consider:

  • 7 million jobs have been created in 2022
  • Wages are up 5-6% for workers
  • Consumer spending has increased 4% this year
  • Corporate profits are up 11% year to date and S&P 500 companies are expected to earn 11% more than they did in 2021
  • Housing is cooling off due primarily to higher mortgage rates

The economy is doing fine, with the problem being not declining economic activity, but inflation at 40- year highs.  Years of low interest rates have helped propel double digit corporate profits and market returns in excess of 18% per year from 2019-2021.  Now, the Fed is tasked with taming inflation. Can the Fed do it just right and cause a “growth recession” by cooling the economy enough to end inflation. Or will they overtighten and cause an actual economic contraction.  No one knows.

What have been the historical impact of prior recessions? Recessions are common, part of the overall ebbs and flows of the business and economic cycles.  In the last 100 years, there have been 48 recessions.  The last one was February to March 2020.  According to Kiplinger last week, the average time of recessions since the Great Depression has been 11 months.  Recessions are not very long periods of time, and in fact, we may already be 6 months into a 2022 recession that started January 1.

In addition, you must separate the stock market from the economy.  The general assumption is if one is down, the other must be as well. That’s not correct.  The stock market rises and falls based on expectations.  As result, the markets typically recover before the economy itself does.  The markets have already “baked in” the possibility of a recession at somewhere between a 40%-60% likelihood.  We’re now in a bear market, which typically lasts 9 months. If recession occurs within a bear market, on average, it increases the bear markets by 2-3 months and the downside by about 3%. Of course, no one can predict the future and past performance is no guarantee of future results.

Recommendation:  Focus on what you can control and not on what you cannot control.  Certainly, we would prefer a recession not to happen.  There could be a little more pain and duration to the bear market we are in.  We know that the economy and the markets work in cycles.   Our 2022 losses in the market are temporary.  Hopefully we are getting near the bottom.  If we keep our money invested, history shows us that future bull markets will more than recover our losses. 

But we have to stay invested, particularly during times of recovery.  Please see the chart below.  The S&P 500 has returned on average 9.52% from 1/1/2002 to December 31, 2021.  If an investor had missed the best 10 days out of 5,036 in those 20 years, their return for the period would have been 5.33%.  If they missed the 30 best days, their return would have been less than ½ of 1%.  It’s easy to get out of the markets but no one can accurately guess both the top of the market and the bottom of the market. The moral of the story is to stay invested.

Conclusion:  No one knows if we are in a recession or will experience one in 2022 or 2023.  If a recession occurs, it most likely will be a very mild recession.  Corporate profits are still high and there are currently 11 million unfilled jobs.  Corporations have over $4 trillion in cash.  Will worker layoffs happen after companies have been working so hard to find and keep them? At the same time, consumer sentiment is down as all of us are dealing with 40-year high inflation, losses in our investment accounts, the continuing war in Ukraine and persistent new strains of COVID.  It’s been a tough year for many, but let’s focus on what we can control, not what we can’t.   For all of us, that means keep your investment portfolio FULLY INVESTED.

At DWM, we’re here to help.  Give us a call.

Detterbeck Wealth Management is a fee-only financial planning / wealth management company with offices located in Palatine, IL (Chicago area) and Charleston, SC areas serving clients locally and across the country. To contact us about setting up an appointment, please see our contact us page