Might recent stock market weakness be forecasting an economic recession? Up until last this week, few had given that possibility much credence. The market’s weakness — the S&P 500 SPX, +0.19% is down about 14% from its early-January 2022 all-time high, at last check — was caused by rising interest rates, the narrative went, and those rising rates were themselves a reaction to an overheated economy — not one about to contract.
Then came last week’s report that the U.S. economy shrank in the first quarter at a 1.4% annualized rate. At once the narrative changed to include the serious possibility that the U.S. economy is about to slip into a recession, if it hasn’t already. On Monday of this week former Federal Reserve governor Roger Ferguson pronounced that a recession in 2023 “is almost inevitable.”
Many look to the stock market for clues about a recession, since it is a discounting mechanism that tries to anticipate what’s coming down the pike. But how good a job does the stock market really do in anticipating recessions?
For answers I turned to the recession calendar maintained by the National Bureau of Economic Research, the semi-official arbiter of when recessions begin and end in the U.S. I then correlated it with the bear market calendar maintained by Ned Davis Research. I discovered that the stock market has a spotty record at best of anticipating corrections.
In six of the 25 recessions that have occurred since 1900, for example, a bear market didn’t begin until after the recession was already underway. And in the case of a seventh recession, there was no corresponding bear market at all. That meant that in just 18 of the recessions —72% — did the bear market anticipate a recession by turning down in advance.
While 72% seems like an impressive track record, it’s less than meets the eye. It doesn’t reflect instances in which there was a bear market on Wall Street and a recession did not occur. Of the 37 bear markets since 1900 in the Ned Davis calendar, 13 did not coincide with a recession. Taking all bear markets since 1900 into account, the stock market anticipated a recession in fewer than half of the cases.
This is the source of the famous quip from the late economist (and Nobel laureate) Paul Samuelson that the stock market had predicted nine of the last five recessions. The bottom line? The stock market has a spotty record at best of anticipating recessions
Mark Hulbert is a regular contributor to MarketWatch. His Hulbert Ratings tracks investment newsletters that pay a flat fee to be audited. He can be reached at firstname.lastname@example.org