To Recession or not to Recession? That is the Question.

Published 25th January 2023

I will not begin this missive with a quote from “The Bard”, or talk about how his seminal works impacted my adolescence – he was as foreign to my upbringing as a dinner without meat and at least three veg. I do, however, want to write about the Big R and why its existence, or extinction, has little bearing on your portfolio; I just thought that was a catchy title!

There are many people in the financial markets who are either forced (obligation of their role) to predict the future, or who actually believe (obligation of their ego) they can see over the horizon to what tomorrow brings. Thankfully, that is not in our job description. Yes, we are charged with having a view, setting a course of action for the highest probability outcome and managing your hard-earned savings accordingly. However, as each day passes, and no matter how hard I try, I am slowly coming the realisation that predicting the future is a lost cause. Such a disposition is a positive, not a hindrance.

Investor psychology and sentiment are much more important to the future of your portfolio than reading the latest predictions from the great minds of New York or London. The stats show that economists have failed to predict 148 of the last 150 recessions (2017 - The Guardian ). It is how you manage your emotions during the different market phases, and how your advisor manages theirs, that will make the largest impact to the dollar amount at the bottom line of your portfolio valuation.

Now more than ever we are going to need to manage our emotions when it comes to investing. Point-to- point, the last 12 months has been challenging from a returns perspective. The Balanced portfolio that we monitor was down -10%. While this is a large number, it is roughly half of some of the overall market falls. US markets were down ~20%, Global markets down -13% (-18% hedged), bond markets down -12% and our Australian market was down -1%; not too bad when you consider inflation, interest rates, geopolitical tensions, change of government etc. That is a lot of disruption for the market to navigate in a very short period of time. The major fallout from the war in Ukraine was that our commodities (oil, gas and coal) provided a major market buffer. We were able to participate in this to a certain degree with Mineral Resources up almost 80% over the last 13 months from when we purchased. However, we were not able to find an appropriate risk return level to buy Woodside Petroleum post the merger of BHP’s oil division.

As published in the Dec 2020, we are building some tangible examples on what “Real Risk” means to our day-to-day living and spending habits. This has been drummed home over the last 3 months as inflation and interest rates continue to move to the upside, impacting our most rudimentary spending habits. The graph below outlines some of the emotions people experience during the different phases of the market; it guides us on our ethos of ‘greed and fear’. Spending time now to consider where you have been, and where you currently are, on the graph below could set you up for greater success in the future.

Source: Investor Resolutions & January Stats For 2023 - RIA (realinvestmentadvice.com)

Understanding that it is more important to control the flow of our emotions, than it is to control the flow of information or engage in prognosticating, is critical. It ensures 1) you are able to carry the appropriate level of risk through your investment cycle (long term and patient), 2) you can act when others are frozen, 3) you understand the difference between what you are feeling and what the facts are, and finally 4) that being nimble and flexible at the right times of the cycle will serve you well.

What are the right times, you ask? Well, if you use the above graph, you want to be nimble and reposition your portfolio around Exuberance to Anxiety (mid 2021 – early 2022) and between Capitulation and Hope (early to late 2009). Outside of those times, you continue to invest for the long term, tweaking your portfolio as you look for constant improvement in the risk/reward trade-off. Looking at where the markets are today, I can’t say I have had the same feelings I experienced during the GFC. Maybe I am wiser (I know I am older…) or less emotional? However, fear, despair and panic, I am yet to see; we are either out the other side of this bear market, or we have a little further to go. Either way, setting your portfolio for both options, and understanding your emotions, will leave you in a sound place for the long term; you never know what will happen tomorrow.

Sorry, I almost forgot about the million-dollar question – To Recession or not to Recession?

If the predictions below play out and you believe there WILL NOT be a recession (in the US), then you are off to the races. Buy up big and relax. On the other hand, if you think there WILL be a large recession, and the US market is heading back to COVID lows, you had better put up the shutters and run for the hills…sorry that is all a bit tongue in cheek, but you get my drift. Prediction is a nil sum game; for every one you get right, you are bound to be hurt by the one you get wrong.

Ultimately, having a plan and building your investment portfolio, within two defined options that you monitor, provides the greatest probability of success; even more so if you are nimble and invest with flexibility.

The cost of getting such a binary decision wrong is years of painful financial rehabilitation, coupled with a heavy emotional toll.

Source: Investor Resolutions & January Stats For 2023 - RIA (realinvestmentadvice.com)