The popular press is generating a lot of recession-related articles lately and with stocks starting the New Year on a weak note, it’s no wonder investors feel a little nervous. Year-to-date, U.S. large cap stocks are down about 10% while most international markets are down even more. Commodities continue to slide and global economic growth has been revised lower. This is certainly not a confidence-inspiring picture, but here’s why keeping calm and carrying on is the best course of action.
First, I want to illustrate why stocks and stress don’t mix. Let’s say that stocks are down 10% year-to-date, the global growth outlook is muddy at best, and you’re seeing a lot of articles suggesting that the US is headed for a recession. Assuming the above facts and a meaningfully-sized investment portfolio, most humans are likely to feel anxiety, stress, and maybe some fear. Is the market going to fall further? Are we heading for a recession?
Having read enough about neuroscience to be dangerous, I know that when we’re feeling anxiety, stress, and fear, the more evolved part of our brain – our neocortex – is usually off-line and the more primitive part of our brain – our limbic system or brain stem (a.k.a. lizard brain) – is typically running the show. When our lizard brain is calling the shots we often make poor, fear-based decisions because we can’t see the big picture. Our brain shuts down and we become reactive instead of proactive. In these instances our capacity to think higher-level thoughts is greatly reduced.
Speaking of the big picture, did you know that from 1926 – 2015, stocks have delivered average annualized returns of 10%? Notice that includes the two largest US market declines, the Great Depression, and the Great Recession. Not bad. When we get triggered by stress, facts like these can get overlooked and we could make decisions we’ll come to regret. Here’s a schematic of how that might look:
You can see how our thoughts and emotions affect our behavior which then reinforces the above pattern or one like it. Unfortunately, the outcome stinks and so I’d like to propose an alternative – – one that leads to a much happier, healthier outcome.
In the alternative pattern, the same triggering event happens, only this time you’re aware of the stress and anxiety it triggers. The fact that you’re aware of the stress and anxiety is huge! It means you’re not identifying with the emotions and thus your rational-thinking, neocortex brain is still online. You now have choices. Given the old pattern, one strategy would be to call your advisor and get some reassurance that the sky isn’t falling. Another option is to simply turn off the TV or the computer and take some deep breathes. Maybe take a walk around the block or engage in an activity you enjoy. The point is to interrupt the old pattern. The more you can do this, the more your awareness grows, and in turn, the more options you have.
Following through with this example you can see that giving yourself a break from the triggering event and getting some perspective allows you to stay calm, and thus make better decisions. Just like the first illustration, when repeated, this one will also reinforce itself. And the outcome is much better.
So now that you’re hopefully in a calm, peaceful state, we can talk about the current environment. Yes, stocks have gotten off to a shaky start but the US economy remains on stable footing. Jobs growth is strong, oil prices are low, consumer debt is in-check, and wage growth is finally starting to rise. It’s true that US manufacturing is contracting but it only accounts for about 12% of GDP. Meanwhile, US services sectors, which account for 88% of GDP, remain in expansion mode.
Stocks have been spooked by falling commodity prices, slowing growth in China, and fears of deflation. But most leading indicators remain strong and every recession since the 1970’s has been preceded by a spike in oil, not a decline. Finally, and speaking of perspective, there will always be some risk of recession simply because contractions are a natural and a healthy part of any business cycle. Without them we can spiral out-of-control into bubble-like environments. I for one intend to stay calm and carry on. Nothing else seems to help anyway.
Carrie A. Tallman, CFA
Director of Research