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What Would a Recession Actually Mean for Long-Term Investors?

Author:

Sloane Ortel

Founder and Chief Investment Officer of Ethical Capital.

We might be in the midst of a recession right now.

I say that because measures of real-time economic activity have slumped significantly this year. As I write, the Atlanta Fed’s GDPNow model is forecasting that the United States’ GDP fell by 2.1 percent.

We can’t know for sure if this will come to pass until the official data is released later this summer, but people are already worried about it. Google search volume for the word “recession” is already higher than it was in 2008, and the mainstream press is starting to write about slowing economic activity with some regularity.

It’s natural to wonder what this means. After all, most people assume that a recession is one of the most significant risks to their savings. There is certainly truth to that. The S&P 500 is down almost 20% so far this year, and it’s likely that many investors have experienced similar declines in the value of their holdings.

What happens next?

No-one can say with certainty how the rest of the year will unfold. But this is a profound opportunity to learn from history because this isn’t the first time that the US economy has slowed down. The National Bureau of Economic Research maintains a handy database of prior instances and we spent some time examining it for indications of how the future might unfold.

One crucial thing to understand is that no-one rings a bell at the onset of a recession. They are generally only recognized in retrospect, when economists can confidently identify peaks and troughs in economic activity.

The chart below is meant to illustrate one of the most important practical implications of this: by the time an official recession determination is announced, the recession is usually over. The grey bars indicate recessionary periods and the purple bars indicate when those recessions were announced.

Buying stocks during the month a recession was announced generated an average return of 16.19% one year later.

But much more importantly, remaining committed to one’s long-term plan allowed investors to experience the profound growth that unfolded over the subsequent decades. Even terrifying periods like 2008’s great recession were no match for patience and the power of compounding.

Focus on what matters

The real risk of a recession is that it will scare us into making suboptimal financial choices like staying away from the stock market, selling our existing holdings, and buying expensive “protection” from further market declines.

These mistakes can be immensely seductive! I’ve got no doubt that there is someone making slick tiktok videos right now about complex trading strategies that purport to preserve the value of portfolios no matter what happens in the market. Your best bet is to ignore these, because they have a way of shifting focus away from what matters: your long-term investment objectives.

Families, individuals, and institutions often forget that the simple act of centering these goals produces a profound sense of strategic clarity. In many cases, the money we manage is meant to meet goals that won’t materialize for more than thirty years.

That’s roughly the entire amount of time shown in the chart above! It can be hard to picture yourself that far into the future, but it’s worth a try. Because by then, you’ll have almost no recollection of today’s fears, just a sense of gratitude to your past self for sticking with the plan.

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