I won’t pretend to have a better crystal ball than other participants in the financial markets. The future is open to a wide range of prognostication simply because there are many possible roads forward. I want to talk here about the most common forecasts for 2023 and give some advice to investors on weathering uncertain markets. 2022 wasn’t a fun year to be an investor. There was a technical recession with two consecutive quarters of GDP contraction. The S&P 500 hit bear market territory twice and was down just over 13% at the end of November. Bonds looked similar to stocks as 10-Year Treasuries were down more than 20% at one point and 30-Year Treasuries were down more than 30%! Clients in balanced portfolios fared as badly as those in undiversified portfolios.
Most economists and government forecasters are now saying that recession in 2023 is pretty much inevitable. The economy will be weighed down by high inflation and rising interest rates. Many of the HICCUPS I discussed in last article will continue. Jared Franz, an economist with Capital Group, expects the U.S. economy to contract by 2% in 2023. That would be worse than the Tech Bubble (2000-2002), but not nearly as bad as the Financial Crisis (2008). “The important thing to remember,” Franz stressed, “is that recessions are inevitable and necessary to clear out market excesses, and they set the stage for future growth.”
Not everything is negative in the economy at the moment. Consumer spending, essential for a market economy, is still strong despite high inflation. September showed consumer spending increasing by 1.7% against a forecast of 1.4%. The American consumer can’t forestall a recession on their own but their needful activities in the marketplace will keep the wheels turning.
From an investment standpoint, we need to look to history for guidance. Although every recession is painful, they don’t last as long as bull markets. The average recession lasts about 10 months (according to Capital Group) while bull markets generally last about a decade.
Equity Markets Lead
Investors should remember that equity markets are a leading economic indicator. This means that investment markets tend to react before the economy changes. Generally, the peak of a bull market is about six months before recession begins and the trough tends to be about six months before the recession ends. The strongest gains often occur immediately after a market bottom. Those that wait for the markets to signal an “all-clear” miss out on the best days of the next market cycle.
The last 20 years saw an average annual return of 9.52% in the S&P 500. Investors who missed the 10 best days in those 20 years saw their return cut in half. Those who missed the best 40 days had a loss for that entire 20-year span ($10,000 initial investment became $7,372 after 20 years). Recessions are difficult for investors but timing the market has proven to be a greater danger to long-term wealth creation.
One of the best features of investing in equities is the fact that profitable companies pay dividends. Investors receive an income just by holding the security regardless of capital appreciation. Dividend-paying companies have shown resilience in uncertain times and rewarded investors for their patience. My outlook is for investors to benefit from holdings in dividend-paying companies.
Circumspection & Patience
Recessions are also a time of industry change. Weaker companies falter while strong companies thrive. Companies leading in the prior economic cycle may not be the leaders in the new expansion. This is a time for investors to evaluate their portfolios and look to the future with their holdings, not hold onto the past with those that lead the prior economic environment.
I recommend circumspection and patience going forward. The worst risk for investors isn’t investing through a recessionary period, it’s missing out on the long-term gains of a diversified portfolio. Sit down with your financial advisor to ensure your portfolio reflects your goals and appetite for market volatility.