Winning in a recession

It is official. The folks at the National Bureau of Economic Research (the official arbiter of when recessions begin and end) announced today that the U.S. economy is in a recession. While I don't consider that news (anybody with enough life in them to fog a mirror probably figured that out a long time ago,) I was surprised that the NBER said the recession began in December 2007. With 11 months of recession behind us and no recovery in sight, some investors are bound to feel frustrated. How are we supposed to win in this kind of environment anyway?!

To answer this question, we need a little perspective. Since 1929, there have been 13 recessions which have lasted, on average, about 10 months. A sampling of these-the recessions since 1960-are shown in the following table.

The current recession is likely to last a while meaning it will likely to be on par with the Volcker recession in 1981-1982 or the oil embargo recession in 1973-1975. In both cases, the economy contracted profoundly and the future looked bleak.

For example, from the onset of the 1973-1975 recession to its end, the economy contracted by 2.6% and the S&P 500 lost 20% of its value. However, at the market's worst levels in September 1974, the S&P 500 was down 41% from where it started the recession. In other words, the market actually cut its losses in half while the recession was still in full swing. And from the trough to the top of the ensuing expansion in January 1980, the S&P 500 gained almost 90%.

A similar story unfolded during the Volker recession of 1981-1982. At its nadir in August 1982, the S&P 500 was down 19.8% from where it started the recession in mid-1981. However, by the time the recession ended in November 1982, the S&P was actually 9.9% higher than where it started the recession. But that was just the beginning. By the end of the ensuing expansion, the S&P 500 rocketed over 245% from its August 1982 recession lows.

This experience is typical of other recessions. A study conducted by Ned Davis Research shows that since 1929, the stock market typically bottoms out about 60 percent of the way through a recession. Based on this experience, the way to win during a recession is to make sure your portfolio is structured correctly and then to hold on.

Of course, nobody knows what the future will bring. It may be that this recession and its recovery will bear no similarity to past recessions. But I doubt it. I have found great wisdom in Mark Twain's quip that "history doesn't repeat itself, but it does rhyme." I have rarely been disappointed by taking the opposite side of a trade from someone who claims that "this time it is different." It may take a while to correct, but I am usually not disappointed.