The worst is likely over!
Numerous independent research reports and data from multiple sources suggest that the economy is emerging from the recession and the market recovery that started on March 9th is sustainable. In fact, the S&P 500 Index has risen over 40% from the low point in early March.
Not many market prognosticators had predicted that the stock market would begin its recovery as early as March of 2009, but nobody is complaining that the recovery is coming sooner than expected. In fact, history has taught us that while the media loves to print predictions and forecasts, they are rarely accurate. The best approach to the markets continues to be the diversified, low-cost, transparent, and tax-efficient model that we apply to portfolio management.
The news will continue to be filled with stories of economic despair and continuing job losses. For less sophisticated investors, these stories will keep them from investing in the markets. The truth is that investors who are fully invested prior to the end of recessions get rewarded.
Future events will dictate how long the recovery will take and whether or not we as investors will have more pain to bear before reaching our pre-recession wealth levels. The following information is powerful in supporting the proposal that the worst is likely over:
Three things your friends don’t know about the economy and the markets:
- The two best years ever for the S&P 500 stock index included the ends of two recessions. The years 1933 and 1954 both began with the country in a recession. In 1933, the recession covered the first three months of the year and in 1954 it lasted for the first five months of the year. In both years the S&P 500 returned over 50%.
- Leaders at the National Bureau of Economic Research claim that one of the most reliable indicators that we are within six weeks of the end of a recession is when the weekly number of Americans filing new claims for unemployment benefits peaks. This statistic peaked in early April. Of course, the total number of unemployed workers may continue to rise through the end of the year as additional layoffs are expected to exceed the number of new jobs created for many more months.
- In eight of the last nine prior recessions, the stock market has made a significant recovery prior to the end of the recession. In addition, unemployment in all nine cases spiked at the end of the recessions or shortly thereafter. Therefore, if you are waiting for better employment reports before investing cash that you pulled out of the stock markets, you will be very sorry. See the charts below for the specifics related to the last nine recessions.
Source for below graphs: Ibbotson, JPMorgan Asset Management, Bureau of Labor Statistics. Time zero represents the numeric low of the S&P 500 Total Return Index associated with the recessionary period defined by the shaded grey area; data shown in months. S&P 500 Index is rebased to 100 at time zero.
It appears that the deepest recession in our lives is coming to an end. The worst is most likely behind us and portfolio growth should be anticipated in the months and years ahead (albeit slower growth than we experienced prior to the recession). As we come out of this recession, we should review what we have learned and the lessons that have been reinforced:
- Stay invested during recessionary periods.
- Allow positive market momentum generated during the recovery to replace market losses suffered during the recession. Do not rebalance aggressively during a recovery or you will unnecessarily prolong the time it takes to recoup your losses.
- Bailing out of the market after you have suffered major losses guarantees that you will not regain your prior wealth level.
- Recognize that market recoveries almost always precede the improvement in economic numbers.
- Diversification and conservatism are the friends of long-term successful investors.
- It is best to achieve a targeted rate of return with the least amount of volatility. The proof can be seen in a simple example. Assume that in back-to-back years, the market will gain and lose the same percentage amount. Your first thought might be that it doesn’t matter to you as an investor if the amount of gain or loss is small or large, because the average return is the same under both scenarios. Now for the reality. Although the average return is 0% in both portfolios, the compound return, and thus the end value of your portfolio, differs dramatically:
Impact on a Hypothetical $100,000 Portfolio
- Neither the magnitude nor the length of a recession is ever predictable in advance. The media will find someone who had predicted this recession correctly; however, if you have 10,000 forecasts from which to choose, it should not be surprising that one in ten thousand would have it right. Sadly, there is no evidence that this is a repeatable skill.
Shocks to the system may delay the recovery or cause us to set new lows before the old highs are once again attained, but it is more likely than not that we have seen the market bottom in March for this recession. Even with a 40%+ recovery from the bottom for the stock market, portfolios still have further progress to make to regain the wealth levels held back in late 2007. For well diversified portfolios, the declines were not as severe as the drop in the S&P 500; therefore, wealth levels should be restored more quickly for diversified portfolios that have remained invested.