Q: I hear the U.S. could be headed for a recession. What does Savant think?
A: The short answer is the economic data does not reflect a pending recession. The main driver of the U.S. economy is consumer spending, which accounts for nearly 70% of our nation’s gross domestic product (GDP) – the official measure of our economy. Being that we are not highly dependent on other countries for our economic growth, the lackluster growth outside the U.S. has limited impact. Some of the factors that influence our consumer spending include jobs/wages, housing, and household wealth.
First, unemployment is now at 5.0% (near the lowest level since 2008) after the U.S. added 2.7 million jobs last year and is on pace to add a similar number this year. The current wage growth of 2.2% (12-month average hourly earnings growth) is still considered moderate, but there are hints of pressures building. As there are fewer qualified candidates competing for jobs, employers will likely face pressure to increase wages. In addition, the labor force participation rate is picking up. These are all positive signs for our economy.
Second, the housing market has been improving for two years and continues to be supported by low interest rates. Bank lending standards have been relaxed which should continue to support housing demand.
Third, household wealth, or net worth, started off 2016 at an all time high of nearly $87 trillion. The data reflects the value of homes, stocks, and other assets minus mortgages, credit card debt, and other borrowing. Again, these are positive signs which contribute to consumer confidence which in turn drives spending. Evidence of that spending strength is auto sales, currently at a record annual level of 17.4 million vehicles (up from 9.0 million in 2009).
A currently weak area of our economy is manufacturing, as measured by the ISM Index. It has slightly contracted recently; however, it did improve for a second consecutive month in February and its subcomponents are expanding. Weak manufacturing and the recent correlation of stocks with falling oil prices caused many to conclude we are doomed for a recession. These are not typical drivers of recessions. We believe the Fed will continue on its path to raise interest rates – a sign the economy is on solid footing. Despite the pockets of weakness, in our view there is little evidence of a pending slowdown in growth, let alone signs of a recession.
Q: What can we do to avoid the anxiety of watching our portfolio go down?
A: Our advice has its roots in science. There is a term called “loss aversion” which in behavioral science means that losses hurt twice as much as gains feel good. Economist Richard Thaler demonstrated how this concept affects people.
He asked people to select one of two investment options, one heavier weighted in stocks (higher return and higher volatility), and the other with fewer stocks (lower return and less volatility). Half of the people were shown the investment results eight times in the next year, while the other half were only shown the result once during that year. In other words, some were looking at the stock market roller coaster eight times as often as the others.
You can probably guess the outcome: those who saw their results eight times a year only put 41% of their money into stocks. Those who saw the results just once a year invested 70% in stocks. The implications of this experiment are clear. The more often you look at your portfolio, in good times and bad, the more pain and anxiety you are likely to experience, and the more cautious you tend to be.
Most investors cannot afford to be overly cautious as they save for retirement, especially given the low interest rate environment we are in today. There is most often a need to invest in assets with growth potential, not just with a capital preservation objective.
So, the best way to avoid the mental anguish of these occasional sharp downturns is to spend less time looking at your overall returns. You miss the two steps forward, and, most importantly, you also miss the more traumatic one step backward.
Sources: Federal Reserve Bank of St. Louis, Bob Veres