Swedroe: Stock Performance In A Recession

September 22, 2014

Even if you get it right, market timing during a recession won’t result in a windfall.

It’s now been more than five years since our last recession. This most recent recession, caused by the financial crisis, officially began in December 2007 and lasted until June 2009, a period of 18 months. It was the longest of 12 recessions, identified as such by the National Bureau of Economic Research, occurring in the post-World War II era.

During that period, the average length of a recession was 11 months. The longest we have gone between recessions was from March 1991 (that recession began in July 1990 and lasted eight months) until March 2001 (a recession that also lasted eight months and ended in November 2001).

A topic of great interest to investors is how stocks tend to perform in recessions. Before answering that question, however, it’s important to note that we often don’t know when a recession officially has begun until much later, and when it has ended until well after it’s over.

That means that even if there appears to be valuable information in the data, you most likely won’t be given an opportunity to put that information to good use. With that said, how exactly have stocks performed during the 12 recessions since 1945?

Surprisingly Positive

While it may come as a surprise to many, the average total return to the S&P 500 Index was a positive 3.9 percent. This, however, was below the 4.9 percent average total return to one-month Treasury bills. Thus, while stocks did produce a positive return during these 12 recessions, there was a small negative equity risk premium.

In other words, there would have been only a slight advantage to timing the market perfectly—getting out of stocks just as a recession was about to begin and getting back into stocks just as it was ending—even if you knew in advance when recessions would start and finish. And of course, no one does know.

Moreover, this small benefit might have been wiped out by taxes and transaction costs. In short, even perfect foresight regarding where the economy was headed might not have provided much of a benefit.

It’s also worth noting that stocks actually outperformed one-month Treasury bills in half of the 12 recessions, and produced losses in just five of them. In the recession from February 1945 through October 1945, stocks outperformed one-month Treasury bills by more than 27 percent in terms of total returns.

And in the recession from July 1953 through May 1954, they outperformed by more than 26 percent, again in terms of total return. The worst gap between returns was in the latest recession, when the S&P 500 underperformed one-month Treasury bills by more than 40 percent. The next worst gap was 7 percent.



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