Brenda Vingiello, CFA, Sand Hill's Chief Investment Officer, joined the CNBC Halftime panel to share her views on small cap stock valuation in the Q4.read more
Welcome Back to an Economic Cycle
April 27, 2023
With the multiple levels of support thrown at global economies and capital markets post 2019, many have forgotten what an economic cycle is, and many are too young to have experienced one. Until February of 2020, the U.S. economy was enjoying the longest expansionary period on record which caused many to question if recessions were a thing of the past. That “non-recessionary” period lasted 128 months, the longest economic expansion going back to 1854.1,2 These 10½ years of economic growth breached a generation of investors. Not only were the youngest generation entirely underexposed to a recession, but even some of the experienced market-watchers dismissed that a pattern of inflation, rising unemployment, decline in spending, and weakening Gross Domestic Product (GDP) could again coincide. While ignorance is bliss, we appear to be back into an economic cycle, and it is not entirely bad.
It is not difficult to understand how a decade without an economic cycle can bring about amnesia of its existence. We had a wakeup call as the 2020 recession provided a tease in the form of the shortest recession in history. Although COVID-19 was certainly the impetus of the mini-recession, with the unemployment rate sitting at record lows and corporate margins peaking, inflation wasn’t likely far behind, typically opening the door to a Fed tightening cycle. With the emergence of the worst global pandemic in a century, the economic shock came swiftly, driving the Fed to unleash one of the largest stimulus packages seen in modern history. Whereas most classic recessions last two to three quarters, the 2020 recession lasted less than two months given economies were flush with liquidity. Although the COVID stimulus was initially warranted, the “easy money” environment persisted and was supported by continual Fed commentary that they were “not even thinking about thinking about raising interest rates” considering their persistent, high conviction view that inflation was transitory.3
Entering 2022, we were presented with runaway inflation, the Fed finally capitulated, and we entered the fastest and steepest tightening cycle in history taking the Federal Funds interest rate from near zero up to 5% in under a year. As we were at the end of 2019, unemployment is back to record lows, corporate margins are coming off recent peaks, and slowing global economies present us with signs of a business cycle.
The potential emergence of a recession has perhaps never been so widely discussed as recently. Some feel that we have been in a rolling recession (sector by sector) which is a possibility. To the positive, contractions act as a pressure release valve to help reset economic growth, perhaps necessary in this era to further cool inflation. Overall, the consumer’s balance sheet will likely stay in relatively decent shape to dullen the effects of an economic slowdown. Like the consumer, most corporations have strong balance sheets. As green shoots once again emerge, the contraction should fade away in the rearview mirror. Many state that it is the action of the Fed that creates economic cycles as they either under or overreact to employment and inflation levels. For this cycle, we might look more inward as we pay the pauper for all the elements and benefits that contributed to an over-heated economy. Anticipating the next step, we welcome the end of the Fed interest rate hike cycle which should help improve certainty on the economic path going forward.
1 – www.usatoday.com/story/money/2020/06/08/recession-begins-us-ending-longest-expansion-history/5320335002
2 – www.cnbc.com/2019/07/02/this-is-now-the-longest-us-economic-expansion-in-history.html
3 – www.afr.com/world/north-america/powell-says-fed-not-even-thinking-about-thinking-about-rate-hikes-20200611-p551g7
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