Slack timing vs. stock market timing

The recession caused by the pandemic will unravel as one of the most bizarre economic downturns in history.

The National Bureau of Economic Research did not officially recognize the onset of the recession that began in February 2020 until June of that year.

Nobody really needs economic research to tell us we’ve been through a recession. Everyone knew the same day the NBA postponed its season, Tom Hanks contracted Covid and schools across the country closed that a recession was on our doorstep.

It won’t always be that easy.

For starters, the definition of stagnation is hard to define per se. Some people claim two consecutive negative GDP figures.

NBER has its own definition:

The traditional National Bureau of Economic Research definition of a recession is a significant decline in economic activity that spreads through the economy and lasts more than a few months. The Committee is of the view that while each of the three criteria—depth, prevalence, and duration—must be satisfied more or less individually, the extreme conditions disclosed by one criterion may partially compensate for weaker indicators than the other.

Economic data is not like the stock market. It is not updated every day. It can be difficult to identify. Requires estimates, surveys, updates and adjustments.

The US economy is $25 trillion in size, made up of millions of workers and businesses. There are a lot of moving pieces, so it can be hard to understand what’s going on in real time.

For example, there was a short recession that began in January 1980. The NBER officially called the start date of the January recession in June, just one month before the recession ended in July. By the time the NBER officially declared the recession over in July 1980, a new economic downturn had already begun in July 1981.

The recession that lasted from July 1981 through November 1982 was not announced until January 1982.

The recession that began in the summer of 1990 was not resolved until the spring of 1991.

The March 2001 recession was not officially announced by NBER until November 2001, the month it ended.

The recession of the Great Financial Crisis began in December 2007. It was not officially announced until December 2008, the same month that Bernie Madoff’s Ponzi scheme finally emerged.

The interesting thing this time around is that everyone – even Cardi B – seems to be expecting a recession right now.

In fact, many people seem to think that we are already in a recession. Just take a look at these survey results:

Seven out of 10 Republicans think we’re currently in a recession. More than half of Independents and 43% of Democrats think the same thing.

The unemployment rate is still 3.6%. Wages are rising. Consumers still spend their money crazy.

We may be in a recession right now but the fact that the US economy has added 1.2 million jobs in the past 3 months seems to contradict this argument.

Maybe this is just a poorly worded survey or maybe people really hate inflation.

Yes, inflation is the highest in 40 years but high inflation does not mean that we are currently in an economic slowdown.

However, the probability of a recession is definitely high because inflation is very high at the moment. It would be difficult to bring it back without causing a stagnation.

Recessions have caused the majority of the biggest crashes in history, so it’s understandable that stock market investors are nervous. The S&P 500 is currently down 14% or so from all-time highs.

Many critics feel this is not bad enough given that the Fed is raising interest rates and inflation remains high.

Sure, the stock market could drop further from here but it wouldn’t be easy to use the economy as some sort of signal for the stock market’s performance if we went into a recession.

Here’s a look at every recession since World War II along with S&P 500 index returns in the six months before the recession, during the actual recession itself and then one, three and five years after the end of the recession:

The stock market and the economy are not always in sync with each other.

Sometimes, the front of the stock market runs the economy. Sometimes the stock market is very slow to respond to economic data. Sometimes stocks go down as the economy contracts. Sometimes stocks go down long before the economy goes down.

Most of the time, the stock market is doing very well after the recession is over.

The average one-, three- and five-year forward returns for the S&P 500 after the recession are +20.9%, +48.6%, and +256.4%, respectively.

It is really beautiful.

Unfortunately, the average stagnation correction since World War II is -31%.

not good.

We all know all the worst-case scenarios for a market crash in this group – 1973-1974, Internet explosion, Great Recession, Corona crash, etc.

But what about the best-case scenario for the stock market during a recession?

The 1953-54 recession caused the stock market to plunge less than 15%. In 1980, the S&P fell only 17%. Recessions of 1948-49 and 1957-58 sent stocks down just over 20%. In 1990 it was less than 20%.

So there have been cases where the economy took a step back but the stock market didn’t collapse completely.

That’s what’s making investors so worried right now – things could get worse or worse could be behind us. We’ll only know with the benefit of hindsight.

It makes sense to see a pullback in the stock market when the economy is slowing, so I understand the desire to time the market when a recession appears imminent.

The problem here is twofold:

(1) The timing of a recession is difficult to anticipate.

(ii) It is also difficult to predict how and when the stock market will react to a recession.

You can time a recession but you are completely breathing in the bottom of the stock market.

It’s important to remember that even if you know the exact start and end date of the next recession, it won’t necessarily help you determine the stock market’s trajectory in the meantime.

The timing of the economy is tough.

Stock market timing is tougher.

In-depth reading:
The two types of bear markets


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