Lessons Learned from The Great Recession

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The Great Recession is a headline that is hard to turn away from. It’s like that accident you drive by but just have to glance at before you pass by.

The National Bureau of Economic Research (NBER) has proclaimed the Great Recession to be a thing of the past, having ended in the early summer of 2009. The devastation was wide-spread and the recovery will take years to fully be felt by those affected by its wake.

NBER has estimated that over 8 million jobs were lost during the 2007 – 2010 time period with only one million or so jobs having been created so far during the recovery. What lessons from this difficult economic period can be learned so that when the next eventual recession hits, we can all be better prepared to weather the storm?

In thinking about the answer to that question, one word sums up many of the lessons: DISCIPLINE.

We are all aware of how the U.S. equity market performed over the recessionary period. In 2008, the S&P 500 was down 36.7%! That performance was the second worst annual return in the last 85 years of measuring that index. Other measures of investment performance did equally or worse than the S&P 500. Domestic markets (measured by the Russell 1000 Growth Index) were down 38.5%, developed international markets (measured by the MSCI EAFE Index) were down 43.4%, and emerging markets (measured by the MSCI Emerging Markets Index) were down 53.3%.

There was seemingly no place to hide from this wave of wealth destruction. Yet a valuable lesson that has held up time and time again made many investors happy by the end of 2010. That lesson…Discipline.

Investors who had exposure to both equity and fixed income markets (stocks and bonds) saw their allocation to riskier asset classes (stocks) fall as a percent of their total net worth in 2007 and 2008. Those with the discipline to rebalance their portfolios during this time reaped the rewards of this practice. Equity market returns skyrocketed in 2009 and 2010 as the worst of the recession ended and the beginning of new growth began to take over.

The discipline needed to rebalance your portfolio during the depths of a market contraction can be an emotional gut-check. The lack of this discipline is what often causes individual investors to underperform the overall market. The emotional decision to buy investments at depreciated prices can be a difficult one. However, good investment professionals have the ability to remove the emotion of this decision and focus on the intellectual aspect of market cycles, economic recessions and recoveries, and security pricing over longer periods of time.

A lesson that has been re-learned often, even in times of prosperity, is that diversification is essential in managing your wealth. Extreme wealth can be created from concentrated positions, but more often than not, wealth can be destroyed in the same manner. Who foresaw that GM and Bear Stearns shareholders would be wiped out in a matter of months? Additionally, more than 300 banks closed over the last two years (some of them billion dollar banks with household names like Washington Mutual and Indymac).

Even some of the “survivors” like Citigroup, Bank of America, and AIG have seen their market capitalization evaporate by 90% or more (not to mention their virtually non-existent dividend yields). Disciplined investors know that diversifying their holdings is the best way to avoid the financial ruin that the risk of a single concentrated position can bring.

Another lesson from the Great Recession was expense control. This can apply to corporations and individuals alike. Companies recovering most rapidly from the recession were the ones that quickly realized a pending financial storm was brewing and took the steps to strengthen their balance sheets. This was accomplished by reducing spending on less essential projects as well as reducing the number of jobs, causing the current unemployment rate to swell to over 9%. It is not easy for companies to make these decisions but the discipline to do so during difficult economic times can mean the difference between moving ahead once the recovery has begun or falling behind competitors.

For individuals, the Personal Savings Rate (PSR) has been increasing steadily since April 2008 when the PSR went over 4% for the first time since the late 1990’s. Spending and overall consumer credit both contracted during the Great Recession as well. Consumers have tightened their financial belts and are thinking twice before adding to their debt or reducing their savings. This discipline does not help our economy recover but it does keep more people prepared to weather a temporary job loss or other financial set-back.

Other lessons we learned from this Great Recession include adjusting expectations for future market returns. During the 1980’s and 1990’s (the Great Bull Market) it was common to expect annual returns from investments of 10% or more. Expected returns today, for a portfolio of 70% stocks and 30% bonds are now in the 8-9% range. The discipline to review current spending needs vs. wants, taking into account this lower return outlook, starts to put some conservative trends into these analyses but also affects the level of savings that might be required to meet those goals.

While the recession may be “officially” over, for millions of Americans the recession goes on. As investors, we can all learn from the excesses of the past and develop a disciplined approach to our future. History has a habit of repeating itself and those who learn from the lessons of the past are more likely to have success in the future. Investment professionals who have studied these lessons can often provide the proper insight during the stressful periods of market uncertainty. Such guidance helps to remove the emotion to act irrationally and replace it with education and advice to take advantage of the uncertain times.




This material is provided for general information purposes only and is not a recommendation or solicitation to buy or sell any particular security, product or service. Past performance discussed does not predict future results. Investments are not bank deposits, are not obligations of, or guaranteed by Canandaigua National Trust Company of Florida and are not FDIC insured. Investments are subject to investment risks, including possible loss of principal amount invested. Investments may be offered through affiliate companies.

Posted by Will Weidman at 10/09/2013 07:48:57 PM