Stock market investors are too concerned about whether a recession is imminent.
That statement seems ludicrous on its face, of course. But in this column I hope to convince you that it's true. So bear with me.
The notion that stock market investors should worry about an economic downturn derives from a perfectly reasonable concern about what that downturn would do to corporate profits. Aren't stock prices a function of those profits?
Ultimately, yes. But there's many a slip 'twixt the cup and the lip, to quote the ancient proverb.
I provided you an initial hint of this slippage in a column headlined, The Mae West Theory of Investing, in which I reported that the S&P 500, on average, produces its best quarterly returns when corporate profits in that quarter are between 10% and 25% lower than in the year-earlier quarter. The quarters with the fastest profit growth has some of the poorest returns.
Another hint that there is a convoluted relationship between the stock market and recessions comes from trying to correlate their beginnings and endings. To do that, I relied on the recession calendar from the National Bureau of Economic Research, the semi-official arbiter of when U.S. recessions begin and end, and a bear market calendar maintained by Ned Davis Research.
Believe it or not, more than half the bear markets on the Ned Davis calendar since the 1930s had no corresponding recession. That is, the U.S. economy was expanding throughout those bear markets.
Of those bear markets for which there was a corresponding recession, furthermore, for just one was the economy in a recession when the bear market began. On average for the remaining bear markets, the recession didn't begin until more than seven months after the bear market did.
It's furthermore worth noting in this regard that NBER typically takes many months after a recession begins or ends before officially declaring that this is so. For the recession that began in December 2007, for example, the NBER announcement didn't come until 11 months later. Though that recession was deemed to have ended in June 2009, the NBER announcement to that effect didn't come until 15 months later.
What all this means for investors today: The next bear market -- whenever it begins -- may not be accompanied by a recession. And even if it does, the recession's start is likely to come many months after the bear market has begun, and even then we won't know it has started until as much as a year or more after that.
In other words, by the time the NBER is certain that a recession has begun or ended, the corresponding bear market is likely to have not only long since begun but probably ended as well.
Still not convinced?
Consider an academic study that appeared in the Journal of Applied Corporate Finance in 2012 titled Is Economic Growth Good For Investors? Its author is Jay Ritter, a finance professor at the University of Florida. He found that "when measured over long periods of time, the correlation of countries' inflation‐adjusted per capita GDP growth and stock returns is negative... And this means that investors would have been better off investing in countries with lower per capita GDP growth than in countries experiencing the highest growth rates."
My final piece of evidence comes from Vincent Deluard, head of global macro strategy at INTL FCStone, a financial services firm. He recently calculated the return of a hypothetical clairvoyant investor who knew, one quarter in advance, what the final GDP growth rate of that quarter would be. He assumed that this investor was 100% invested in the S&P 500 when that quarter's growth rate was higher than the immediately preceding one, and otherwise in cash.
Deluard found that this investor lagged a buy and hold by an annualized 1.0 percentage points since 1948.
None of this is to suggest that recessions don't matter. They have a huge impact on the welfare of almost everyone.
Just don't kid yourself that by devoting your forecasting energies on the economy that you have dramatically improved your odds of beating the market.