Article

Is a recession a good time to invest in shares?

Super and investments 101 | Date Posted: 17 June 2020

“The time to buy is when there is blood in the streets.”
- Baron Rothschild, London banker (1777-1836)

A recession is characterised by high unemployment, business failures and constant bad news stories about the economy in the media. A general feeling of pessimism takes over and we instinctively become more cautious and maybe try to save a little more.

A recession is defined as two consecutive three-month periods when the economy gets smaller. It’s not an environment in which Aussie investors are likely to feel like taking big risks in their super fund. Now that Australia has almost certainly entered a recession, people may naturally start to think about the impact this may have on their super nest egg.

They invest in shares because they hope to receive regular dividends and to see an increase in values as profits rise over time. Yet during a recession spending by consumers and businesses tends to fall, which impacts revenues and therefore profits.

Whilst this doesn’t sound like a great time to be in shares, there are three things that super fund members should consider:

1. Share markets look forward

When it becomes clear that the global or Australian economy is falling into recession, markets may see increased volatility. Investors may expect company profits to fall in the near term and are uncertain how long the downturn will last. Global share prices can fall at such times. This happened in 2008 at the start of the global financial crisis (GFC) and in early 2020 when the COVID-19 pandemic shut down much of the economy.

Such falls in share prices happen because investors look forward to the expected downturn rather than back at the previous period that may have gone very well.

Similarly, once in a recession, investors may soon start to look forward to the eventual recovery in the economy and company earnings and disregard the immediate bad news. Furthermore, firms often cut expenses or reduce their borrowing costs in a recession, which supports profitability after the economy stabilises.

2. Some companies do well in a recession

Many companies are impacted during an economic downturn when consumers typically cut back on non-essential spending. However, a recession will have a much more modest impact on companies that are less sensitive to the economic cycle. Energy, water, thermal coal, telecommunications, healthcare and grocery stores are generally less impacted by an economic downturn. Value-focused shops and restaurants may also outperform during a recession if cautious consumers look for more cost-effective options. This may well support their share prices.

During the COVID-19 downturn, media platforms such as Netflix performed relatively well as the lockdown led to greater demand for their services. Meanwhile, large global tech groups outperformed the market as investors anticipated increased adoption of technology.

3. Recessions don't last forever

It’s important to remember that recessions may only last a relatively short time. The period between investors realising that the economy is in recession and it exiting recession is often fairly brief.

Despite higher volatility, this period is often characterised by strong share market gains. which is why waiting for a market ‘all-clear’ will likely impact long-term retirement plans.

It pays to be aware in a recession
While the fear of investing in shares during a recession may be overestimated, there are nonetheless some risks that people should consider:

  • Global recessions sometimes last much longer than expected. The GFC was caused by excessive borrowing and reckless lending that damaged the global financial system, and it took considerable time to recover.
  • If unemployment remains high following the end of a recession, it’s likely to constrain economic growth for an extended period after it resumes.
  • Recessions can sometimes lead to poor policy making. Spending on skills training supports a recovery, but higher import tariffs and higher taxation may prolong a downturn.
  • Central banks risk a rise in inflation if they keep interest rates low for too long when an economy is recovering strongly from a recession – eventually leading to much higher rates.

More information

Not sure about having shares as part of your super investment portfolio? An adviser from Mine Super Financial Advice can help. And if you’re a member, you’re entitled to a complementary initial consultation. Click here to book an appointment.

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