Markets & Research
5 realities of this recession
Darrell Spence

Recessions can be hard to predict, but that’s not the case today. The COVID-19 pandemic sweeping the globe has pushed the U.S. economy into recession, with GDP falling 4.8% in the first quarter. While the drop was sizable, an even more pronounced decline is in store for the second quarter, as broad swaths of the country remain shuttered. With the U.S. feeling the sting of a sharp reduction in consumer spending and industrial production, there are five realities to keep in mind.

1) We’ve been here before (sort of)

The largest post-1950 quarterly GDP decline was 10% in the first quarter of 1958. 

The bar chart displays the annualized quarterly rate of change in the U.S. gross domestic product beginning in 1951 through 1959, with recession periods shown in gray during the third and fourth quarters of 1953, the third and fourth quarters of 1957, and the first quarter of 1958. A box highlights gross domestic product growth in the first quarter of 1958, when growth declined 10%. Sources: Bureau of Economic Analysis, National Bureau of Economic Research.

This sharp drop came amid the 1957–1958 recession, which resulted from a confluence of factors, including a flu pandemic. While the makeup of the present-day economy is much different, the U.S. is not unfamiliar with pandemic-related economic turmoil. The U.S. economy bounced back strongly in the late 1950s, with growth surpassing 5%.

As parts of the U.S. look to ease restrictions, I believe that a bounce back in activity could begin as early as June in some sectors and more broadly in the third quarter.

2) Recessions have tended to be short; the subsequent expansions have been powerful

The chart shows cumulative GDP growth of each expansion and recession since 1950. The expansions shown have a much higher magnitude and length compared to the recessions in the chart. An accompanying table shows that the average expansion lasts 69 months, has 24.7% GDP growth and adds 12 million net jobs. The average recession lasts 11 months, has –1.8% GDP growth and eliminates 1.9 million net jobs. Sources: Capital Group, National Bureau of Economic Research, Refinitiv Datastream. As of December 31, 2019. Since NBER announces recession start and end months rather than exact dates, we have used month-end dates as a proxy for calculations of jobs added. Nearest quarter-end values used for GDP growth rates. GDP growth shown on a logarithmic scale.

The good news is that recessions generally haven’t lasted very long. While this time may be different, a Capital Group analysis of 10 cycles since 1950 shows that recessions have ranged from eight to 18 months, with the average lasting about 11 months. For those directly affected by job loss or business closures, that can feel like an eternity. While there's no way to minimize that feeling, investors with a long-term investment horizon should try to look at the big picture. The average expansion increased economic output by 25%, whereas the average recession reduced GDP by less than 2%.

3) It’s about the consumer

This line chart plots the percentage of total unemployed that is temporarily laid off with recession periods shaded in gray between January 1967 and March 2020. The percentage has largely remained between 10% and 18% for most of the 1980s and 1990s. The percentage of total unemployed on temporary layoff rose above 20% in the mid-1970s and early 1980s. Temporarily laid off as a percent of total unemployed rose above 25% in March 2020. Source: Bureau of Labor Statistics as of March 31, 2020.

The U.S. consumer accounts for approximately two-thirds of the economy. With unemployment claims skyrocketing — although many may be temporary — and consumers staying in their homes, a weakening economy is no surprise. The $2 trillion stimulus package will help support some levels of consumer activity, but employment uncertainty is likely to keep many consumers in a frugal mindset.

4) Lower oil prices may be a tailwind for the economy

A precipitous decline in crude oil prices has put pressure on the energy sector. May oil contracts turned negative in April as producers scrambled to find storage for bloated supply stores, exacerbated by consumers’ sharp reduction in vehicle usage and gasoline consumption. While the negative impact of lower oil prices is likely to be felt in U.S. oil fields, lower energy prices can provide a tailwind for consumers and transportation-heavy industries.

5) Timing may not be everything

Waiting for the all-clear may leave investors missing out on market gains. Since World War II, in recessions with a corresponding equity correction, the S&P 500 has bottomed, on average, three months before the end of each recessionary period. It’s little solace to investors who have endured market volatility, but even as the economy weakens, there are opportunities to invest in great companies at a discount.

The chart shows two lines comparing the average S&P 500 market cycle and the average economic cycle (using industrial production as a proxy). The S&P 500 cycle peaks several months before the economic cycle does, and it also starts accelerating from its bottom several months before the economic cycle. Sources: Capital Group, Federal Reserve Board, Haver Analytics, National Bureau of Economic Research, Standard & Poor’s. Data reflects the average of completed cycles from 1950 to 2019. The “cycle peak” refers to the highest level of economic activity in each cycle before the economy begins to contract. Both lines are indexed to 100 at each economic cycle peak, and also indexed to 0 “months before/after cycle peak” on the x-axis. The negative values (left of cycle peak) reflect the average change in each line in the months leading up to the cycle peak. The positive values (right of the cycle peak) indicate the average changes after the cycle peak.

While the adage that the stock market is not the economy is true, market volatility tends to be captured, with a lag, in economic data. So even as financial markets are on a path to recovery, it may take time for the economy to catch up. Focusing on long-term investing can help investors navigate short-term volatility.

Darrell R. Spence is an economist with 28 years of industry experience (as of 12/31/20). He holds a bachelor’s degree in economics from Occidental College. He also holds the Chartered Financial Analyst® designation and is a member of the National Association for Business Economics.

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