Recently the International Monetary Fund’s (IMF) Chief Economist Pierre-Olivier Gourinchas, as a supplement to the IMF’s World Economic Outlook Report October 2022 stated in his blog that “Overall, this year’s shocks will re-open economic wounds that were only partially healed post-pandemic. In short, the worst is yet to come, and, for many people, 2023 will feel like a recession.”

Of course, the media has picked up on this and I’m sure many of you and other investors are not only reading about these issues but also experiencing them with higher prices and recent negative investment returns. It’s enough to get some folks worried about their current investment plan. But should it?

Let’s unpack Mssr. Gourincha’s statement and sentiment. First, let’s acknowledge that global economies are facing challenges and he very well could be right. Having said that, no one I know has been able to consistently predict the future with regard to how and when the markets will respond to economic challenges. I suspect when we read ‘IMF Chief Economist Pierre-Olivier Gourinchas”, his title and even his name seem to hold weight but even the most vaulted peers of economic prowess aren’t 100% accurate soothsayers. It’s also interesting that he said that 2023 will feel like a recession. That sounds like wiggle-room speak to me. Also, remember that reported economic activity is historical while the markets and their returns tend to be forward-looking so they tend not to be in sync.

The point for long-term investors in the current economic climate is that historically for markets, the best often happens after what is perceived as the worst and that’s why “the worst is yet to come” could just as easily be replaced by the “the best is yet to come”. At least this has played out historically for investors in times of economic challenges.

The U.S. stock market continues to recognize losses in 2022, and the U.S. economy shows signs that we are either in or may soon face a recession. I’d like to help illustrate why sticking with stocks through tough times is still likely the better path forward for investors than jumping in and out of the market.

What Does a Recession Mean for Stock Returns?

While not official, there’s reason to believe the U.S. is currently in a recession. Two consecutive quarters of negative gross domestic product (GDP) growth are already in the books — a commonly cited barometer for recessions

The National Bureau of Economic Research (NBER) makes the official call, which typically comes many months after a recession actually begins. The NBER definition includes more than GDP declines (e.g., unemployment). Despite having to wait for its version of the assessment, the market is pricing a slowdown in the economy. For argument’s sake, let’s assume we are currently in a recession. What has that meant historically for U.S. stock returns? To explore this question, we measured returns during business cycles over the past 50 years.

NBER defines a business cycle as the period from one economic peak to the next. Between two economic peaks is a recessionary period (where the economy contracts, or a peak-to-trough period) characterized by a decline in economic activity and an expansionary period (trough to peak) characterized by increasing economic growth.

Data from 1973 – 2021. The market is represented by the CRSP U.S. Total Market Index. Source: Avantis Investors. The average number of months over the period from Peak to Trough is 10.7 and from Trough to Peak is 71.9. Past performance is no guarantee of future results.

At first glance, these results may not seem encouraging in the current economic environment, but there’s more to the story. First, it’s important to consider that the U.S. economy has historically experienced growth far more often than decline. The seven recessions over the past 50 years each lasted on average around 11 months, while each expansion lasted on average about 72 months.

A deeper look at the returns during recessions reveals what I think is the most interesting insight. In Figure 2, we divide recessionary and expansionary periods in half and present average monthly returns over these subperiods.

Data from 1973 – 2021. The market is represented by the CRSP U.S. Total Market Index. Source: Avantis Investors. The average number of months over the period from Peak to 1⁄2-Trough and 1⁄2-Trough to Trough is 5.4, while the number of months over the period from Trough to 1⁄2-Peak and 1⁄2-Peak to Peak is 35.9. Past performance is no guarantee of future results.

In my opinion, the most important data point in this analysis is that the U.S markets referenced in Figure 2 above have on average experienced positive returns during recessions (2nd half). Did you know this? I certainly did not until I dug into the data. So, are we in the second half yet? Almost? A bit longer? Unfortunately, we won’t know until after it’s over and by then it will be too late to act. Darn it. If only it was easier. In conclusion, my big takeaway for investors is to just stick around. Based on history, the best is most likely yet to come.

2022 Q3 Index Review Through September 30

Past performance is not a guarantee of future results. Indices are not available for direct
investment. Index performance does not reflect the expenses associated with the management of an actual portfolio. Market segment (index representation) as follows: US Stock Market (Russell 3000 Index), International Developed Stocks (MSCI World ex USA Index [net dividends]), Emerging Markets (MSCI Emerging Markets Index [net dividends]), Global Real Estate (S&P Global REIT Index [net dividends]), US Bond Market (Bloomberg US Aggregate Bond Index), and Global Bond Market ex US (Bloomberg Global Aggregate ex-USD Bond Index [hedged to USD]). S&P data © 2022 S&P Dow Jones Indices LLC, a division of S&P Global. All rights reserved. Frank Russell Company is the source and owner of the trademarks, service marks, and copyrights related to the Russell Indexes. MSCI data © MSCI 2022, all rights reserved. Bloomberg data provided by Bloomberg.

Past performance is not a guarantee of future results. Indices are not available for direct
investment. Index performance does not reflect the expenses associated with the management of an actual portfolio. Market segment (index representation) as follows: US Stock Market (Russell 3000 Index), International Developed Stocks (MSCI World ex USA Index [net dividends]), Emerging Markets (MSCI Emerging Markets Index [net dividends]), Global Real Estate (S&P Global REIT Index [net dividends]), US Bond Market (Bloomberg US Aggregate Bond Index), and Global Bond Market ex US (Bloomberg Global Aggregate ex-USD Bond Index [hedged to USD]). S&P data © 2022 S&P Dow Jones Indices LLC, a division of S&P Global. All rights reserved. Frank Russell Company is the source and owner of the trademarks, service marks, and copyrights related to the Russell Indexes. MSCI data © MSCI 2022, all rights reserved. Bloomberg data provided by Bloomberg.

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