Special Market Update from Hilary Kramer
We all know the technical definition of a recession, right? A significant decline in economic activity, with two-straight quarters of negative GDP growth. So, why is there so much debate right now on whether the U.S. is in a recession or not?
Based on yesterday’s preliminary GDP report, the U.S. economy has contracted for two-consecutive quarters. The preliminary report showed real GDP declined 0.9% in the second quarter, following the 1.6% decrease in the first quarter. That technically puts the U.S. in a recession.
While I personally want to avoid the political arguments on whether we are in a recession or not, it is clear to me this is not a recession in the way one is understood, even if it does meet the technical definition of one. The point of contention is that the jobs market remains strong, with unemployment very low at 3.6%, and most companies have reported good organic sales gains and higher profits despite the strong dollar as a major headwind. This is something we do not normally see in a recession.
So, what we need to understand is that when the Bureau of Economic analysis stated there is an economic decline, it was talking about real GDP adjusted for inflation, which was close to 8% in the quarter. With economic activity still vibrant, current dollar GDP in the second quarter was actually up 7.8% but still lagging the pace of inflation. It should also be noted that a reduction in inventories contributed 2% to the real GDP decline, and this could reverse in future quarters.
As the media and politicians debate the definition of a recession, I think we need to look past the overly pessimistic take of the current situation and focus on the future. The fact is inflation is hurting many Americans, as we saw in Walmart’s (WMT) earnings preannouncement this week. In addition, the Fed will likely to continue to raise interest rates, which could take a further toll on an already weak housing sector and continue to slow economic growth. And many companies have lowered their earnings guidance for the second half of the year, and this is a trend we could continue to see throughout the current earnings season.
So, what should an investor do here?
In my opinion, we shouldn’t be bogged down in economic predictions and statistics, as they are often unreliable. Instead, we need to stay focused on quality companies that have strong earnings power over the long-term. Those companies that have already discounted a recession or even a further rise in interest rates are attractive opportunities. I also think there are opportunities in companies that aren’t well followed by Wall Street.
The bottom line: Investing should be a marathon, not a sprint. Investing in the right companies that are trading at a reasonable valuation will set us up for a more profitable long term, regardless of whether we are in a recession or not.