September 18, 2018
We seem to be a country always waiting for the next shoe to drop. The Market and the economy are on a strong run of accelerating growth and almost everyone is wondering when will it end. After all, nothing grows to the sky. And when the next recession comes we will look at it with a content (read arrogant) look and mention to whoever will listen to us, “I told you so!”
Since the end of WWII, we have had 11 recessions, each averaging around 11 months in duration. So in 73 years, we have had 11 years of recessions. As far as predictions of impending recessions, I would bet a dollar to a dozen donuts we have had predictions of an impending catastrophic recession each and every year. And 11 of those 73 predictions have been correct. BIG DEAL! Guess what, I will go on the record as predicting the next recession. When will it happen? In the future.
Recessions are part of the business cycle. Right now, companies are making a lot of money—perhaps more than they have ever made. And because profits are high and inventory is flying off the shelves and everything they do turns up roses companies are ramping up capacity to make more stuff so they can sell more stuff and have great quarters and their stock options and 401K’s will make tons of money.
This hyperactivity sows the seeds of the next recession since the economic world eventually reverts back to the laws of supply and demand. The laws of supply and demand are as real in economics as gravity and inertia are in physics. Companies produce too much stuff (causing increased costs of production) and the profit margins start to deteriorate. Oversupply coupled with reduced or even level demand reduces profit.
When the economic engines suffer reduced margins it shows up at their bottom line and that sparks employee layoffs. Increased unemployment reduces demand in an already oversupplied market-place. This causes the pundits and economic experts to stoke the fires of fear (because they are finally accurate and it helps ratings) and the consumer tightens his grip on his wallet. The consumer intuitively knows he must put aside some money for the coming storm. The Gross Domestic Product (GDP) begins to roll-over and shortly thereafter turns negative. When the GDP is negative for 2 straight quarters (6 months) we officially have a recession. And I will turn to you and say, “see, I told you so!”
That is the precise moment that everything goes on sale. It might be a yacht, house, farm, automobiles, or whatever. Everything-including stocks and mutual funds are on sale. And if we have the guts we buy what we can. As far as stocks go, the saying is this: recessions return the shares of companies to their rightful owners. The speculators (read part-timers/daytraders/faint of heart stock pickers) panic and sell their ownership in the great companies of the world at fire-sale prices. And real, long-term investors scoop them up. This is where the real money is made!
After the 2001 recession, the S&P 500 rose over 100% in 5 years. After the last recession, in 2008, the S&P rose over 300% in the last 9 years.[i]
Recessions rinse the markets of excess. An Austrian economist named Schumpeter coined the term “creative destruction.” During times of economic stress, moribund companies with poor or overpriced products are replaced by nimble, efficient companies with strong, accurately priced products. The sun eventually rises and the economic storm passes. Employment begins to grow again—but only after we clear the deadwood (bloated inventories & inefficient uses of capital). If this process did not happen we would still be driving around in horse-drawn carriages. In a meritocracy—which is a good definition of a free-market economy-only the good and strong companies survive.
This is just one of the reasons a comparatively small country of 326 million people live in and drive the world’s largest economy. In fact, if you add the value of Canada, Brazil, Italy, India, France, Germany, and the United Kingdom together (about 1.8 billion people[ii]) you still don’t equal the value of the US economy (20.4 Trillion US Vs. 19.06 Trillion). The International Monetary Fund values the US economy at $20.4 Trillion dollars and our closest competitor, China at just $14 trillion.
The bottom line—yes, we will have a recession. Nobody will like it but we will survive. To thrive we should keep savings high, debt low, and make yourself as invaluable to your employer as possible. If you are an owner of a company, make it as innovative and efficient ahead of time. We will get through it and we will be better for it.
Thanks for reading. Marty
[i] J.P. Morgan, Guide to the Markets, June 30, 2018 Pg. 4
[ii] United Nations Population estimates 2017
