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Calling Nostradamus! Predicting the future is an unprofitable venture!

Posted on Monday, August 26, 2019

Occasionally, I mention things that get my goat. Turns out, I have multiple things/goats. The latest are the throng of economic prognosticators spouting off about when a recession will hit based on trade wars and yield curves. Last time I checked, nobody has the ability to see into the future, especially with exact precision. Rather, these soothsayers are making a prediction akin to saying that a pregnant woman will "definitely" give birth at nine months. Wow! That's quite a crystal ball they have! The reality is that there is a wide berth of standard deviations on when exactly a baby will be born... and in some cases, it doesn't even happen within the standard—think of the miracle babies born at 22 weeks! (Sorry for the baby analogy, but I have three kids. Can't help myself.)

Reality: the economy is cyclical, and that includes reoccurring recessions! You don't have to be Nostradamus to predict that a recession will occur at some point. But, since nobody knows when or to what extent, the better questions are, "what does it mean and what should you do about it?"

First of all, assuming investors have a sound financial plan and an appropriate investment portfolio, they shouldn't panic and make portfolio changes based on the possibility of a recession. A sound financial plan implies your advisor has taken the time to educate you on how market risk works, and planned for the inevitable ups and downs. Recessions are a normal predictable part of economic cycles, so their impact can be incorporated into a financial plan.

On the topic of this inverted yield curve, yes, it inverted...slightly. This means shorter term bonds pay more dividends than longer term bonds. Articles will have you believe this guarantees a recession, but this isn't true as an inverted yield curve can revert. In fact, there have been 9 'false alarms' where the yield curve inverted, then 'de-inverted'*. (We don't think 'de-inverted' is a real word, but you get the point...) But, even if an inverted yield curve does precede a recession, the historical average S&P 500 return after a yield curve inversion is 13% from the time the yield curve first inverts to the beginning of a recession.** So, what do you do? Go back to your plan and make sure you and your advisor are still comfortable with the level of risk in your portfolio with the understanding that market declines will occur. This should happen on a recurring basis regardless of headlines.

On the topic of tariffs, yes, the threat of a prolonged trade war with China has created stock market volatility. Uncertainty always creates volatility, in life (babies...) and in stock markets! And, let's keep the current tariffs with China in perspective. What is the point? It appears the goals are to curb intellectual property theft while creating a more level trade balance, which means that these could be accomplished through increased trade with other countries. It's a negotiation, and investors are trying to digest new information. This is how it works! Whether trade negotiation, savings and loan crisis of the 80's, the dot com bubble, 9/11, the housing crisis, or the latest Jennifer Aniston breakup. Don't ignore the good news - the U.S. has successfully completed bi-lateral agreements with its largest partners - Mexico, Canada, the European Union, and Japan. China represented 7% of U.S. exports as of Q1 2019***. While this negotiation is important, just remember to keep in perspective as both sides work toward an agreement over time.

So about this recession...we don't know. Nobody does! What we do know is that markets have been volatile since the first tariff announcement. Since that day - March 18, 2018- the S&P 500 has only returned 3.95%. However, the Barclay's Aggregate index has returned 8.87% in 2019 (through August 23) alone****. So while the stock market has experienced volatility, investors with an asset allocation balanced with fixed income have experienced a much smoother ride. Some folks can handle large equity allocations, others cannot. It comes back to your personal headlines. Your personal plan. And your vision for the life you'd like to live. You can either accept how markets work, and work to leverage them, or you can spend your precious moments on the unprofitable profession of recession prediction. It's imperative to continue education and understanding markets, but not for purposes of instigating reactive decision. Education and understanding breeds patience and confidence.

*Lord Abbett Investment Management, What an Inverted Yield Curve Could Mean For Investors, June 6, 2019
**Zack's Investment Management, What Does This Week's Market Plunge Mean, August 16, 2019

***First Trust Monday Morning Outlook, Business Uncertainty, August 26, 2019
****First Trust Weekly Market Commentary, August 26, 2019

Index Definitions:
S&P 500: The S&P 500 index is an unmanaged index of 500 companies used as a representative sample of the United States economy. The S&P 500 index consists of only stock holdings. Indices are not available for direct investment and do not reflect any fees that may be charged.
Barclays U.S. Aggregate Bond Index: The Bloomberg Barclays U.S. Aggregate Bond Index is an unmanaged index of fixed rate debt securities rated investment grade or higher by Moody’s, Standard & Poor’s, or Fitch rating services. All issues in the index have at least one year to maturity and an outstanding par value of at least $25 million to $1 billion based on the type of security. Indices are not available for direct investment and do not reflect any fees that may be charged

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