In a recent discussion with a colleague, I referenced the Russian bond default of 1998 – only to be politely informed that he was in high school at the time. In a moment of self-reflection, I thought back on the number of business cycles I had been a front-row participant in from the investor’s chair. The casual conversation gave me pause, but it also provided me with the title for this article.
While the perspective that comes from experience can be invaluable in investing, an over-reliance on prior experiences may bias our expectations for the future. I see this when I talk to our clients about the potential for and timing of the next recession. (Because, let’s face it, at some point in the future, we will have another recession.) Since the 1970s, the average expansion has lasted six years,1 The current expansion turned seven years old in June,2 making it look long in the tooth. Does this mean we’re “due” for a downturn? I don’t think so.
Looking at age alone is far too simplistic. We have had multiple post-World War II stretches of growth that have lasted longer than the current period, most recently from 1991–2001.2 That expansion ended thanks to Fed rate hikes (150 basis points worth in under a year) that were designed, in part, to cool the froth created by the tech bubble.3
This raises a critical point. Historically, our economy has to be significantly disrupted for growth to meaningfully contract and, in turn, result in a recession. This disruption can be “imported” from outside our nation’s borders, like the OPEC-induced oil price spikes of the early 1970s, or can be homegrown in the context of asset bubbles. In the latter case, the Fed typically attempts to counteract the inflationary effects of asset bubbles by aggressively raising rates.
Based on the current health of the U.S. economy, we do not appear to be facing a market disruption. Hiring has been solid for years and unemployment is near cycle lows. Job growth may show signs of slowing, but this is expected in a mature expansion. Wage growth is trending higher, and consumers have rebuilt their balance sheets. The manufacturing sector has weathered a strong dollar and a global growth slowdown. Yet despite these positives, I can’t help but recall that past rate hike cycles have typically ended in a recession.
Outside of risks to growth, rate hikes – however gentle – can create uncertainty. We were all painfully reminded of this in the first quarter of 2016, when a spike in volatility followed the December Fed rate hike.
The Fed’s most recent forecast is for moderate 1.9–2.0% GDP growth for 2016.4 After paltry Q1 GDP growth of 0.8%, this annual rate now looks optimistic, but is still expansionary.5 The market has largely priced the Fed to the sidelines for the rest of the year, placing only 50% odds of a single 25 bps rate hike.6 The Fed has done little to alter the market’s assumption that they will be extraordinarily methodical and cautious during this rate hike cycle.
Rather than deliberating about the current expansion’s length, investors’ time would be better spent considering how to navigate this relatively low growth environment, which could continue for years to come. We already face economic challenges related to this expansion, including low productivity growth and lackluster business investment. Please, let’s lay off the comments about age!
1 National Bureau of Economic Research.
3 Federal Reserve.
4 Federal Reserve Summary of Economic Projections, June 15, 2016.
5 Bureau of Economic Analysis, First Quarter 2016.
6 Bloomberg, as of June 20, 2016.
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