Amid all the gnashing of teeth over the market's decline, here's something that might make you feel better: Even a market decline this nasty isn't a sure indicator of a recession, history says.
"You can have the market decline, and not have the economy fall apart," says Randall Kroszner, an economics professor at the University of Chicago business school. "There's no necessary connection -- though they can be connected."
According to data from the
Investment Company Institute,
a mutual-fund trade group, a half-dozen times in the past 60 years when the stock market dropped steeply, the economy avoided veering into a recession. (ICI researchers define a decline as a 20% decrease over three or four months, or 9% over five months or more.)
To clarify an oft-misquoted fact: Of the 14 stock market declines since 1942, six were
associated with recessions. "The stock market predicted 14 recessions, and only eight have actually come true," says Jim Bianco, president of
. Will this bear market rouse a recession from hibernation? It depends, in part, on how long it lasts, and if the brunt of the decline remains somewhat narrow.
How could there be a sustained, sizable market drop without a recession? It would seem like a bear market would necessarily forecast trouble brewing in the broader economy. But that's not always the case, because the market looks far into the future, Kroszner says.
"So a change in the way people view the 10- or 20-year growth rate can have an important effect on overall stock market valuations, but GDP growth may not be affected in the short-term," he says. A downturn also could be limited to the stock market if analysts changed their minds on whether certain kinds of companies were profiting from trends, he suggests.
Either way, when the lion's share of the pain is concentrated in a few areas of the market, a recession often can be avoided. That's a conclusion drawn from a survey of postwar financial history: When market declines didn't prompt recessions, the equity downturns tended to be narrowly focused.
A shining example is the market crash of 1987. "I think that's the most prominent case of the economy that didn't bark," Kroszner says. "The very large stock market decline in October generated a great deal of uncertainty and consternation and garment-rending but had no effect on the economy. It was such a sharp change in such a small period of time -- people were concerned that it would undermine confidence. Economic growth was a little bit lower that quarter, but things moved right back, and as far as I can tell, there was no long-term consequence."
Or consider a couple other isolated market drops: The '61-'62 decline, says Bianco, happened after President Kennedy said he would nationalize the steel industry; related stocks got pummeled. The downturn in '83-'84 was the aftermath of a tech bubble, when lots of PC outfits went public (sound familiar?).
None of those market declines were broad-based, and Bianco thinks we might be able to steer clear of recession now for the same reason. "The decline today is almost solely in communications and tech," he says. "If you look at stocks away from communications and tech, they're holding up reasonably well. Most of the industry groups -- cyclicals, transportation, utilities, financials -- are higher now than they were a year ago." But he adds a caveat to that: The nontech stocks could run into problems, too -- and a broader downturn could forecast recession.
The tech stocks contributing to this narrow decline also happen to be widely owned. That wasn't the case -- at least to the same extent -- before. There's been plenty of debate over how Nasdaq-focused losses could impact the economy via the
The current downturn in the broader market isn't as nasty as some of its predecessors. In fact, the extent of the
decline is pretty much par for the course. Through Thursday, the index was 20.1% below its peak monthly average of 1485.5, with an average of 1187.1 for the month to date. That's almost exactly typical of a downturn. According to ICI researchers, the average decrease in the index for all the contractions studied was 19.5%.
As hideous as things may be now, they've been worse before. The S&P's biggest drop was in the downturn of 1973-'74, when the monthly average of the market plunged 43.4%.
And so far, the current decline has been relatively short. It's lasted eight months, dating from the S&P 500's monthly average peak in August 2000. In the past, market contractions have lasted anywhere from four to 37 months, with the average downturn lasting 14 months.
Although there's no way of knowing how long the current downturn will last, it's still relatively young. That matters, because longer contractions tend to be more closely associated with recessions.
In five of the six times that market downturns
forecast recessions, the declines lasted less than a year.
Viewed from a historical perspective, the relative brevity and, especially, the focused nature of the current market downturn may be reasons for optimism. "This is the greatest stock-picker's market ever," Bianco says, for those investors who can look beyond tech. "The fact of the matter is, 75% of the stock market is
technology. There are a lot of those stocks out there, but no one wants to play. They all want to try to catch a bounce in