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INTRODUCTION

A Recession is a contraction phase of the business cycle.


In economics, a recession is a general slowdown in economic activity over a long period of time,
or a business cycle contraction. During recessions, many macroeconomic indicators vary in a
similar way. Production as measured by Gross Domestic Product (GDP), employment,
investment spending, capacity utilization, household incomes, business profits and inflation all
fall during recessions; bankruptcies and the unemployment rate rises.
Governments usually respond to recessions by adopting expansionary macroeconomic policies,
such as increasing money supply, increasing government spending and decreasing taxation.
DEFINITION
National Bureau of Economic Research (NBER) is the official agency in charge of declaring that
the economy is in a state of recession.
They define recession as:
“Significant decline in economic activity lasting more than a few months, which is normally
visible in real GDP, real income, employment, industrial production, and wholesale-retail sales”.
A period of general economic decline; typically defined as a decline in GDP for two or more
consecutive quarters. A recession is typically accompanied by a drop in the stock market, an
increase in unemployment, and a decline in the housing market. A recession is generally
considered less severe than a depression, and if a recession continues long enough it is often then
classified as a depression. There is no one obvious cause of a recession, although overall blame
generally falls on the federal leadership, often either the President himself, the head of the
Federal Reserve, or the entire administration.

HISTORY OF RECESSION
Since history seems to repeat itself, maybe we could learn something about the current possible
recession by studying this country's recession history.
Recessions have a very negative impact on investment account values. Recession history
particularly focuses on how each recession affected the Dow Industrials Stock Index. Dow Index
data back to 1930, so we will start there. Sometimes the market moves in approximately 15 year
cycles. The market goes up for 15 years then seems to go sideways for the next 15 years. This
growth and then consolidation pattern happens frequently through out history.
Let's first consider the Dow Industrials index from 1930 through 1945.
This period started with the great depression. We all know the effect the depression had on stock
values. The Dow lost over 88% of its value between 1929 and 1933. It made a nice rebound
following the depression. It increased 345% over the next 4 years. We will see there is a theme in
the recession / expansion cycle. Recessions are relatively short and can be very violent to
investors in the stock market. The expansion period following recessions are much longer and
historically quite good.
One thing you need to be extremely aware of. Numbers and percentages can be deceiving. It has
mentioned that the index lost 88 percent, but then gained 345%. Sounds like you made up all
your losses and then some. Not quite.
The dirty little secret to investment losses is this: if you lose 50% of your portfolio, you need to
make 100% just to break even. This is an ugly little fact, but let’s looks at it in real life. If you
had $100,000 and lost 50%, you would be left with only $50,000. How much do you have to
earn on your $50,000 to get back to even? You need to earn another $50,000. This is 100% of
what you currently have. You lost 50% and must gain 100% just to break even.
Let's put this into real life. In 1929 the Dow had a high of around 380 and in 1933 a low of about
48. This is an 88% decrease in value. Over the next 4 years it went from 48 to 187. This is a
345% increase. Sounds like you made up the 88% loss and then some. Unfortunately you have
only gained back just over half of what you lost. This also is a recurring theme. When a recession
takes huge bites out of portfolio values, it normally takes many years just to break even again.
Not to get ahead of myself, but the Nasdaq has only regained about half of what it lost during the
last recession. And this is 7 years later! The Dow and S&P 500 took about 6 years to finally
break even. The kind of time periods required to recover definitely make the study of the
recession history worth while.
Now that some of the back ground work is complete lets look at the next 15 years, from 1945
through 1960. In 1955 the Dow finally got back to where it was before the great depression. This
was a very long 25 year wait. Imagine the poor retirees that retired before the depression and
never again regained their original portfolio value!
Remember the last 15 years were mostly down then sideways (1930 through 1945). This next 15
year time period (1945 thru 1960) had very mild recessions with the worst only causing a 15%
drop in the Dow. Overall, the Dow gained 267% over these 15 years. This is very good reward
for a minimum amount of risk. This leads us to the next 15 years, 1960 to 1975.
The 15 year cycle is definitely in effect. The last 15 years were very tame yet had a nice return.
These 15 years were not for the feint of heart. Gain was very little over the period, but volatility
was killer. The period started out with a wonderful 75% gain, but gave it all back by the end. The
recessionary periods were very violent. The reward available in this market was much smaller
than the risk. It would have been nearly impossible to be a buy and hold investor and have stayed
with the market.
Thus far, we had a 15 year period that was horrible (1930 thru 1945), one that was very nice
(1945 thru 1960), then another horrible one (1960 thru 1975). Without looking ahead, we might
guess that the next 15 year time period would be another nice one. The market consolidated over
the last 15 years and should be ready to move ahead again.
This period began with a 6 years of continued consolidation (going sideways), but when it was
done consolidating, it moved up very nicely. It moved from around 800 in '82 to 2800 by 1990.
This represents a 250% increase for the period. The volatility for the period was pretty tame, at
least if you look at the volatility caused by recession. The largest pullback in value was the '81 to
'82 recession which was about 18%. There was a large pullback in August of '87 of about 30%,
but wasn't caused by recession and didn't take that long to be regained; all in all a very fruitful 15
years.
This would lead me to believe that the next 15 years (1990 thru 2005) would be tumultuous
again as the market needs to digest its gains.
The roll the market had going continued for the first half of this period. It gained 300% in just 8
years. This was more in the first half than the others gained in their entire 15 year period. This
didn't go un-noticed however, and the market promptly took back a healthy 35% through the
next recessionary period. It took until mid way through 2006 to finally get back to even from the
highs seen in '99. Once this was achieved, however, the Dow just kept going. It extended its
gains through the expansion period, hitting new highs once again.
This brings us to today. There is much talk about the beginning of another recession. We're at the
end of a period that should have shown consolidation, but instead had another large run up. This
run up wasn't without sizeable volatility. We've just broken a long term support line. I've drawn
support lines through the years following recessions and had you sold when the support line was
broken, you would have been saved a lot of grief during the next recession.