Reality Bites. Is a Recession here?

Reality Bites. Is a Recession here?

The International Monetary Fund (IMF) expects this to be the greatest downturn since the Great Depression (1929-1933).

After the strongest weekly market rally since 1933, reality is coming home. Leading research firms and governing bodies are now scrambling to provide their “guidance” as to how economies are going to react, and what that means for the stock market.

For the average investor, a Recession is denoted by “2 consecutive negative quarters of GDP”. For the economists, there is far more to it than just that: Unemployment; Interest Rates; Inflation; Consumer Spending; Debt (both consumer and government); Income; Industrial Production; and more.

A Depression is pretty much the same, just on steroids! Longer, lower, faster.

The data at hand right now most definitely points to a Recession.

⚠️ Unemployment has skyrocketed.

⚠️ This means Industrial Production is slowing.

⚠️ Transportation (once the benchmark for economic growth) has almost ground to a halt – although shipping continues.

⚠️ Going hand in hand with transportation is the massive decline in Crude Oil consumption. OPEC+ are reducing production levels on a massive scale.

⚠️ With the lockdown, consumer spending has slowed. Online shopping has become far more predominant however.

What we haven’t seen yet is the impact on GDP and Debt levels.

US Earnings season is just underway, and we’re going to start seeing the direct impact on company revenue numbers. Economic data is already showing the impact, but Advanced GDP figures will be released in a couple of weeks.

But the data we see in the next couple of months still reflects Q1 of 2020. That is, January to March. It’s going to be Q2 (April to June) where we see the ‘real’ impact!

So what does this mean for the stock market?

It’s highly probable that we will see this rally stall.

For the last few weeks we have experienced a FOMO rally (Fear Of Missing Out). As I’ve stated previously, “the Rich are buying stocks and the Poor are buying Toilet paper”. Investors have been buying up stocks, either averaging down or getting some bargains.

But a Recession means declining (broadly speaking) stock prices. If, as the IMF is predicting, the global GDP figures for 2020 decline by 0.3%, this is going to have a big impact on company revenues.

The 2007/08 Global Financial Crisis (GFC) had a -0.1% impact on global GDP. And that lead to a declining stock market from mid 2007 to March 2009. It wasn’t until early 2013 that the stock market recovered to the levels pre-GFC.

What is the smart money doing?

For sure, the smart money is buying up stocks. They are averaging down and positioning themselves for the long-term.

Sector exposure (Portfolio Construction) is extremely important. Even more so now than previously. There are going to be sectors/industries that will hurt for a long time. Dividends are likely to decline as company profitability declines. Until the cogs of industry are rolling again, until international travel has tourists spending dollars, there is a big hole in the economy.

But, as always, there are companies that are excelling in these times. In particular, the online space. Think Zoom (ZM), Shopify (SHOP), Atlassian (TEAM), Netflix (NFLX), PayPal (PYPL), eBay (EBAY).

The smart money knows that Volatility is high, and will remain high for some time to come. It’s going to be a while until the dust settles from the lockdowns and economic troubles. In fact, it might not even be this lifetime before we see what we know as “normality” (Normality in the future will be different).

For long-term investors, the key is portfolio management/construction. Your position selection will be imperative. It’s not just about “blue chip” stocks now. It’s about which companies can adapt, which provide essential services/goods to the economy, who has manageable debt levels, and who have strong management that are willing to make hard decisions.

For the short-term investor/trader, it is about volatility. We could see some wild swings. We’re not going to see steady trends in place on the short/medium-term.

This period of high volatility is actually ideal for those who incorporate Option strategies into their portfolio or trading.

Options are a Risk management tool. For the last month, with the high Volatility, there are strategies that can help reduce Risk of your portfolio, lower breakeven levels of positions, capitalize on declining stock prices, or assist in a stocks recovery in price. Consider:

– Covered Calls (selling options to reduce risk and lower breakeven levels)

– Credit Spreads (capitalize on high volatility)

– Index Put options or individual stock Put options to hedge against a fall in stock price

– Stock Repair strategy to assist in recovering stock prices.