It seems like every time the market makes a top before a recession, there is some memorable quote that later becomes a punchline. In 1929 it was Irving Fisher’s declaration that “stocks have reached what seems to be a permanent plateau.” January 2020 may well be remembered for Ray Dalio (Trades, Portfolio)’s statement that “cash is trash,” or perhaps for Bob Prince’s claim that the boom and bust cycle is over.
What a difference a few months makes. We have experienced the sharpest recession in the history of the U.S. economy. Many have said that this is a black swan event - one that no one could have foreseen. But recessions don’t come from nowhere - the groundwork needs to be laid in advance. A recent note from Morgan Stanley (MS, Financial) explained how this most recent market downturn is different to 2008, and what that could mean for the eventual recovery.
2020 is not the same as 2008
Many parallels have been drawn between the events of the last few months and the 2008 financial crisis. However, not all crises are created equal - some are driven by corporate largesse (2020), whereas in others consumer excesses also drive market chaos. Over the course of the last decade-plus, companies have been taking on more and more cheap debt in an effort to generate higher earnings. By contrast, consumers are not nearly as levered today as they were in 2008.
According to the bank’s research, this means that consumers may be in a better position to recover from this recession than they were after the Great Recession. The thesis is that once the economy is reopened, the recovery will be much more swift than it was back then, due to the fact that the consumer is in less dire straits. As the note puts it:
“What this means for your portfolio is that ‘stay at home’ winners may no longer be the place to be. Instead, ‘back to work’ beneficiaries may be more underappreciated at this point. I would suggest looking at consumer discretionary and other early cycle stocks that benefit the most from an economic recovery. More specifically, consider areas like housing, restaurants, branded apparel, banks and materials and industrial stocks that will benefit from the greater infrastructure spending we expect going forward.”
Moreover, Morgan Stanley’s analysts believe the small and mid-cap sector of the economy is set to benefit from excessively depressed earnings expectations and that they, therefore, have the potential to positively surprise investors - there is simply less room for disappointment in such areas.
Is this outlook too rosy? Maybe. For one thing, it is no mean feat to jumpstart an economy that has been completely shuttered for several months. The government has taken extraordinary steps, but even the record amount of fiscal stimulus might not be enough to generate the V-shaped recovery so many are hoping for.
On the other hand, 2020 is clearly different from 2008 in that there is a very clear (albeit difficult to reach) solution to the problem at hand. The lockdowns will eventually be lifted. In 2008, many people genuinely felt like the global financial system might come crashing down entirely. And that seems far less likely today.
Disclosure: The author owns no stocks mentioned.
Read more here:
- Seth Klarman: What Is a Margin of Safety?
- The Value Investor's Handbook: Defining Your Investment Goals
- Warren Buffett: What Is a Board of Directors For?
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