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Thursday 07 May 2020
by Jackie Emson

Recession not Depression by Simple Solutions

As you may well be aware volatility had returned to the global financial markets this earlier this week. I can see that for many people logging on to their client websites over the last couple of weeks, they may have been slightly uplifted at what they saw. However there is still a long road ahead of us yet. As Boris and his government contemplates the next phase of lockdown and the gradual return to normality it remains to be seen what will happen in the markets. 

There is no doubt that most economies are entering a period of recession as the shockwaves of the containment measures pass through. The International Monetary Fund currently predicts that global GDP (gross domestic product – a measure of economic activity) is likely to fall by 3% during 2020, far worse than the -1.8% drop seen in 2009. 

But we don’t think any of this will translate into an extended economic depression. 

Recession and depression are very different things, and understanding why will help allay some of the concerns you may have about the economic future. 

RECESSION NOT DEPRESSION 

A recession is characterised by an economy shrinking for at least two consecutive quarters – in other words, two consecutive quarters of negative GDP growth. Analysis by the International Monetary Fund, which includes factors outside of GDP growth, shows that there have been four global recessions since World War II – in 1975, 1982, 1991 and 2009. 

A depression is deeper and longer-lasting than a recession, characterised by an extended period of high unemployment, low levels of economic activity and stunted production. There’s been only one global depression in the last century, the Great Depression of the 1930s, during which US GDP fell by 33% (from 1929 to 1933). 

Recessions can be painful for many – losing your job or your business will always hurt – but the broader economy survives. A depression, on the other hand, has the potential to create unpredictable, profound and enduring damage beyond the economy.   

The current recession will without doubt be very deep and wide-spread. Unemployment has risen significantly and a wide range of sectors are affected. But we think the recession will be short-lived, and that’s the key to our cautious optimism. With economic activity plunging so deeply, even a slow, partial re-opening of the economy is likely to lift activity from these extreme lows. 

 Of course this will only be the start of a gradual process. That’s why the government’s fiscal stimulus is so important – it needs to provide the temporary support required to enable a self-sustaining recovery. 

Assuming there’s no severe second wave of infections, the nature of this crisis means we’re unlikely to see a long period of economic stagnation. Instead we should see an extended ‘Nike’ tick or swoosh-shaped recovery as the world processes the economic impact of the lockdown. 

As the medical crisis is brought to heel, we believe we will see a steady improvement in the economic backdrop. While the collapse in economic data has been dramatic, there aren’t any deep-seated systemic problems standing in the way of a recovery. In 2008, for example, there were severe dislocations in the financial system that had to be corrected before things started improving – that’s not the case today. 

  

MARKETS TEND TO BOUNCE BACK FROM BIG FALLS 

In the last few weeks we’ve seen some recovery in equity markets. The S&P 500 is up around 13% in dollar terms over April while the MSCI UK Index is up around 3%, indicating that investors are starting to feel more confident. It’s early days, and we expect further ups and downs between now and the end of the current crisis, but this shows that investors are still seeing long-term potential in equities. 

  

And they have history on their side, as markets tend to bounce back from big market falls in the longer term. The table below shows how UK equities performed in the months after the biggest downturns of the last 30 years. After 12 months, investors in UK companies made an average gain of 10%. After three years the patient investor would be over 30% ahead. And after five years, the very patient investor would, on average, have gained over 60%. 

  

It’s worth remembering, however, that this average includes wide variations, and of course past performance is not a guide to future returns. 


  

THE WORST STOCK MARKET MONTHS AND RECOVERIES 

MONTH EVENT 1 Month 6 Months 12 Months 3 Years 5 Years 

Oct-87 Black Monday -25.90% 4.60% 10.80% 29.20% 77.90% 

Nov-87 Black Monday Part 2 -10.10% 15.40% 19.90% 51.70% 107.80% 

Aug-98 Russian Crisis -9.40% 18.40% 21.00% 11.00% -7.30% 

Sep-01 9/11 Terror Attack -7.80% 9.80% -22.30% 2.90% 42.80% 

Jul- 00 DOT Com Bubble Burst -9.00% -14.80% 1.80% 38.10% 77.30% 

Sep-02 Stock Market Downturn 2002 -11.80% -1.20% 14.90% 63.50% 106.20% 

Jan-03 Stock Market Downturn 2002 -9.00% 19.50% 27.90% 78.70% 94.40% 

Sep-08 Global Financial Crisis -12.90% -18.20% 10.00% 17.30% 59.40% 

Oct-08 Global Financial Crisis Part 2 -10.60% -0.40% 20.90% 41.90% 86.00% 

Mar-20 Coronavirus Pandemic -13.40% N/A N/A N/A N/A 

  Average -12.00% 3.30% 10.50% 33.40% 64.50% 

  

Return is for MSCI UK Index, total return. Returns in subsequent months are cumulative. Source:  Reuters Eikon/Datastream, Coutts & Co, April 2020 

   

THE VALUE OF UNDERSTANDING HISTORY AND LOOKING TO THE FUTURE 

Market falls like we have seen in March can be intimidating. If you had invested for the first time in January this year, you have every justification to feel nervous about the current situation. 

While investing can be an emotional experience in the short run, our experience, expertise, and analysis allows us to form a disciplined and robust assessment of the situation. 

Above all else, our diversified portfolios are invested in different markets and across various asset types, are designed to help you ride out the ups and downs of even the most extreme events. 

 

RAYS OF SUNSHINE  

 As the saying goes It is darkest before the dawn. Although Europe and the US face difficult months, Chinese business surveys snapped back at the end of March and the authorities there are beginning to ease policy. The US Congress is currently debating a fourth ‘mega-package’. We expect public sector deficits in many countries to approach 10% of GDP this year, taking debt/GDP ratios well above 100%. However, the strong support from central banks, via general quantitate easing (QE) programmes will ensure debt servicing costs are manageable, for the time being. On the medical front, the WHO indicates the peak of infections may be in sight in Europe, while antibody tests may start to show that parts of the population can return to work. 

  

Our message is the same as previous. Stay calm and carry on. It is difficult times for us all to say the least, your portfolios are very well diversified not only in shares but fixed income too. 

  

Until next time, stay safe, do not let the media spook you especially with the ‘R word’ on the horizon, remain calm and carry on with your plan. 

 

Take care, 

 

The Simple Solutions Team