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It feels like you can’t go a day without reading the news about an impending recession. They say it will wipe out swaths of wealth. All of the so-called experts are shouting from the rooftops that investors should take money out of the market and into perceived safer assets. They are fueled by fear and by the uncertainty of what will happen with the imminent doom.
What is a Recession?
Before I go too far, I think it’s important to clarify very quickly what a recession is. Some people view a recession when the stock market goes down by 20%. This is incorrect. When the stock market goes down by 20%, that is actually called a bear market. In contrast, when the market goes up by 20%, it’s considered a bull market.
Currently, the U.S. economy has been in a bull market since March of 2009. Meanwhile, the GDP (Gross Domestic Product) is currently in an expansion. The GDP is a measure of the total value of goods produced and services provided in a country during one year. An expansion is when the GDP continues to increase year over year.
A recession is “a period of temporary economic decline during which trade and industrial activity are reduced, generally identified by a fall in GDP in two successive quarters.” (Oxford Dictionary)
As I’ll explain later, there is a big difference between how the markets respond to a recession versus a bear market.
Looking back, on average, a US expansion lasts 58 months. On the other hand, a recession typically lasts 11 months, on average.
Anybody that remembers the Great Recession knows that it actually lasted a bit longer than an average recession. At around 18 months (December 2007 – June 2009) in duration, people rejoiced once it ended.
Timing the Market
Back in 2013, I got caught up in the hype. I thought that the stock market was getting too hot. By the summer of 2013, the stock market had continued to rise for around 4.5 years. On average, expansions last 58 months (4.8 years) before they hit their peak.
So, I thought it would be wise to stop putting new money into the stock market. I stayed on the sideline in anticipation of the next recession. That way I could gobble up cheap stocks when the stock market inevitably fell.
The market never went back into a recession. In fact, since then, the stock market has gone up another 50%. So much for a wise decision. In reality, I was an idiot for thinking that I could time the market.
Changing my Ways
While it wasn’t the best decision, not all is lost. I was fortunate in 2016 when the market started out choppy. I was able to deploy a ton of cash during the 10% pullback. Still, I hope to not make the same mistake in the future.
After I deployed that cash, I began automating my life and investing as much money into the market at regular intervals. That way, I wouldn’t be tempted to time the market again.
But What If…
What if I was able to perfectly time when a recession began and ended? How much money could I potentially make?
Not nearly as much money as I thought that I would be able to.
Don’t believe me? Check out this chart below.
Do you notice anything with these figures?
A Recession and the Stock Market
If you’re like me, you may be shocked to see that not every recession actually leads to a decline in the stock market. Heck, during two recessions, the stock market became bull markets.
When most people think of recessions, they think of the Great Depression of 1929 and the Great Recession from 2007-2009, when there were massive pullbacks in the market.
But, even if you incorrectly bought at the top of the market in 2007, you would have doubled your money 10 years later.
As you can see, the market is much tamer than the pundits would have you believe when a recession hits.
This is why I believe it’s critical to understand the difference between a bear market and a recession. The two are not necessarily as similar as everyone thinks.