Register For Our Mailing List

Register to receive our free weekly newsletter including editorials.

Home / 305

Recession and why timing markets doesn't pay

When do we know for certain that we are on a path toward recession and that what we are experiencing is not simply a reversion to trend? How can investors prepare? Those questions captured the minds and emotions of investors and pundits alike through the first quarter of 2019.

While some of the global economic data released in Q1 was disappointing, we are not put off. The theme of Vanguard’s 2019 outlook was ‘down, but not out’ as we anticipated some deterioration in economic growth indicators. Holding that view is easier said than done when consumption, income, housing, and manufacturing indicators in several nations signal weakness. Almost in spite of the uncertainty, however, share markets in Australia and overseas returned over 10% for the first quarter.

The yield curve and central banks

It was hard – even for the most steadfast of investors – to ignore the debate around the economic cycle once the US Treasury yield curve briefly inverted in the final weeks of March 2019. When short-term interest rates are higher than long term rates, investors become pessimistic about what could happen in the next year, yet optimistic when looking five to ten years into the future. Traditionally, this pattern has preceded every major US recession in recent memory, so quite understandably, investors are taking these warning signs seriously.

Central banks only added to the feeling that economic storm clouds are gathering. Ironically, their actions might have been intended to instill confidence in their respective economies, but markets, especially bond markets, had none of it. The US Federal Reserve revised its vaunted ‘dot plot’ to suggest that interest rates would be on hold for the rest of the year; they had previously signalled two more hikes. Locally, the Reserve Bank of Australia became more tentative in its official policy communications. Even the Reserve Bank of New Zealand changed its tune and openly discussed the possibility of a rate cut.

Investors are now asking; “What do the banks know that we don’t?”

Economic and market outlook

This questioning comes at a precarious time for the global economy, as we recently passed the 10-year mark from the onset of the Global Financial Crisis. Those who say the US economic expansion must end soon, simply because the expansion has been remarkably long, overlook Australia’s record-setting recession-free expansion in their review of the global economy. Investors feel that we are close to crossing a line, albeit a blurry one, between economic growth reverting to trend (2% in the US, 2–3% in Australia) and an outright global slowdown.

Part of this concern is driven from a tightening of financial conditions. According to our analysis, financial conditions and heightened anxiety over economic policy probably contributed to some of the decline in US GDP growth for the last quarter of 2018. In a recent research note, Known unknowns: Uncertainty, volatility, and the odds of recession, we estimated that these shocks could have subtracted as much as 0.4% from 2019 GDP growth.

Inevitably, with each new development in this cycle, we are asked by investors what they can do to prepare. Regular readers of Vanguard’s commentary will not be surprised by our answer: revisit asset allocation, diversify, and review active risks in your portfolio.

Market timing does not pay

Attempting to time markets can backfire and lead to long term underperformance, as our analysis shows in the figure and table below. The questions investors ought to be asking are: ‘If a recession occurs, how should I respond?’, ‘Am I adequately prepared?’ and, ‘Does my financial plan reflect my comfort with uncertainty?’ rather than ‘When will the next recession occur?’

Adequate preparation, whether increased savings, a new asset allocation, or even a conversation between an adviser and their client, is the best way to prepare. The market will take us for a ride as it tries to guess (with limited success) what will happen in 2019. If we stay calm and adhere to a long-term approach, we limit the effect of the market’s fits and tantrums on our journey toward investment success.

Matthew Tufano is an Economist at Vanguard Australia, a sponsor of Cuffelinks. This article is for general information purposes only and does not consider the circumstances of any individual.

For more articles and papers from Vanguard Investments Australia, please click here.

RELATED ARTICLES

From macro to micro: end-of-cycle investing

What does the shape of the yield curve tell us?

Investors need to allow for future cycles

banner

Most viewed in recent weeks

Unexpected results in our retirement income survey

Who knew? With some surprise results, the Government is on unexpected firm ground in asking people to draw on all their assets in retirement, although the comments show what feisty and informed readers we have.

10 reasons wealthy homeowners shouldn't receive welfare

The RBA Governor says rising house prices are due to "the design of our taxation and social security systems". The OECD says "the prolonged boom in house prices has inflated the wealth of many pensioners without impacting their pension eligibility." What's your view?

Three all-time best tables for every adviser and investor

It's a remarkable statistic. In any year since 1875, if you had invested in the Australian stock index, turned away and come back eight years later, your average return would be 120% with no negative periods.

The looming excess of housing and why prices will fall

Never stand between Australian households and an uncapped government programme with $3 billion in ‘free money’ to build or renovate their homes. But excess supply is coming with an absence of net migration.

Five stocks that have worked well in our portfolios

Picking macro trends is difficult. What may seem logical and compelling one minute may completely change a few months later. There are better rewards from focussing on identifying the best companies at good prices.

Six COVID opportunist stocks prospering in adversity

Some high-quality companies have emerged even stronger since the onset of COVID and are well placed for outperformance. We call these the ‘COVID Opportunists’ as they are now dominating their specific sectors.

Latest Updates

Retirement

10 reasons wealthy homeowners shouldn't receive welfare

The RBA Governor says rising house prices are due to "the design of our taxation and social security systems". The OECD says "the prolonged boom in house prices has inflated the wealth of many pensioners without impacting their pension eligibility." What's your view?

Interviews

Sean Fenton on marching to your own investment tune

Is it more difficult to find stocks to short in a rising market? What impact has central bank dominance had over stock selection? How do you combine income and growth in a portfolio? Where are the opportunities?

Compliance

D’oh! DDO rules turn some funds into a punching bag

The Design and Distribution Obligations (DDO) come into effect in two weeks. They will change the way banks promote products, force some small funds to close to new members and push issues into the listed space.

Shares

Dividends, disruption and star performers in FY21 wrap

Company results in FY21 were generally good with some standout results from those thriving in tough conditions. We highlight the companies that delivered some of the best results and our future  expectations.

Fixed interest

Coles no longer happy with the status quo

It used to be Down, Down for prices but the new status quo is Down Down for emissions. Until now, the realm of ESG has been mainly fund managers as 'responsible investors', but companies are now pushing credentials.

Investment strategies

Seven factors driving growth in Managed Accounts

As Managed Accounts surge through $100 billion for the first time, the line between retail, wholesale and institutional capabilities and portfolios continues to blur. Lower costs help with best interest duties.

Retirement

Reader Survey: home values in age pension asset test

Read our article on the family home in the age pension test, with the RBA Governor putting the onus on social security to address house prices and the OECD calling out wealthy pensioners. What is your view?

Sponsors

Alliances

© 2021 Morningstar, Inc. All rights reserved.

Disclaimer
The data, research and opinions provided here are for information purposes; are not an offer to buy or sell a security; and are not warranted to be correct, complete or accurate. Morningstar, its affiliates, and third-party content providers are not responsible for any investment decisions, damages or losses resulting from, or related to, the data and analyses or their use. Any general advice or ‘regulated financial advice’ under New Zealand law has been prepared by Morningstar Australasia Pty Ltd (ABN: 95 090 665 544, AFSL: 240892) and/or Morningstar Research Ltd, subsidiaries of Morningstar, Inc, without reference to your objectives, financial situation or needs. For more information refer to our Financial Services Guide (AU) and Financial Advice Provider Disclosure Statement (NZ). You should consider the advice in light of these matters and if applicable, the relevant Product Disclosure Statement before making any decision to invest. Past performance does not necessarily indicate a financial product’s future performance. To obtain advice tailored to your situation, contact a professional financial adviser. Articles are current as at date of publication.
This website contains information and opinions provided by third parties. Inclusion of this information does not necessarily represent Morningstar’s positions, strategies or opinions and should not be considered an endorsement by Morningstar.

Website Development by Master Publisher.