You Know A Recession is Coming, Right?

A year ago, in December 2018, I wrote two posts concerning the “imminent” recession: Five Ways to Recession-Proof Your Life and Keeping the “Safe” in Safe Withdrawal Rate. Well, a year has come and gone, and as I write this in December 2019, we are at yet another all-time high in the stock market. America’s longest bull market continues gouging ahead like those fiery beasts in the narrow streets of Pamplona, Spain.

Is this time different?

For those of you out there beginning any sort of retirement (early or not), is your timing perfect or incredibly unfortunate?

How about if you are wondering if now is the best (or worst) time to start investing?

Let’s have a look…

We Largely Know Nothing About Future Markets

In late 2018, from late September to Christmas Eve, the stock market dropped like a rock, falling just a hair under 20% (19.73%) from a S&P 500 high of 2930 points at the close on September 30.

“This is it,” they said.

“The beginning of the next recession,” they warned.

And I didn’t particularly doubt it. We’ve been on a pretty good run since March of 2009, the longest bull market in American history. All good things must come to an end. So, I wrote a couple of posts on how we were preparing for the inevitable…a recession.

A Year Later: How Are We Doing?

What was the result? In 2019 to date, the market has returned 27.3%, the best year-over-year growth since 2013! Granted, we started in quite the hole.

Raise your hand if you pulled your money out of the market in late 2018. Come oonnnn, let’s see em’.

I talked to several FIRE enthusiasts⏤who should know that buy-and-hold really means buy-and-HOLD⏤who still thought they could outsmart the market.

They pulled out their money on the way down in late 2018. Bummer.

Anyone is susceptible to allowing psychology to run the show when the talking heads are talking and the stock tickers are flashing incessantly red across the screen. The obvious thought that I can hedge against a falling market is born, right?

The fear of losing everything to a short-term market tumble is a serious mental adversary in your fight to making long-term investment gains.

Getting back to 2018 and early 2019: by the time the forward-thinking investor realized that the market wasn’t going to continue falling in January 2019, how much growth did he or she miss? Probably quite a lot, because that sucker rebounded hard, jumping nearly 8% in January alone, the largest monthly growth of 2019 to date. Hindsight is 20/20.

Late 2018 sucked hard, and I didn’t like to see myself losing money any more than the next guy or girl. Thankfully, I was still (and still am) in wealth-aggregation mode, working and gaining income, plugging funds into my investments, being a good boy.

And a year later, things are looking peachy…for now.

Bottom Line: An “impending” recession has been predicted every year for years, yet the market remains at an all-time high. Short-term volatility is no predictor of macro market trends.

When Is a Recession Coming and How Bad Will It Be?

In short, I have no idea and no one else does either.

We will really only know we’re in a recession after it’s begun, much like we won’t know if we’re at a market high or low after it’s already passed.

However, there are some smoke signals rising above the stark winter plains of the capitalist market, providing inferences to bigger forces at play.

There are hundreds of indicators of an economy’s health, but these indicators, which include the yield curve, various confidence indices, and unemployment claims, suggest a mixed signal.

Undoubtedly the global economy is starting to slow. Should we then assume that the economy is heading for a financial crisis, paired with a drop in equity values of 50% like 2008?

Should we go to Walmart and buy a lot of canned goods and munitions? Is it prudent to finish digging out that bunker we started ten years ago in the back yard? Quick honey, help me bury our cash!

Not likely.

Here’s why I feel like this next “recession” is shaping up to be a bit different.

Investors Are Acting Proactively

Historically, market crashes are preceded by rampant speculation. Investors keep chasing higher and higher (overvalued) equities, resulting in a bubble and a subsequent hard crash.

Right now, things are different. Over the last year or more, investors are moving to less volatile “safe havens” (e.g. cash and bonds, etc.) over fears of an imminent market crash in stocks.

While a shrewd buy-and-hold strategy never involves moving in and out of “risky” or “safe” investments, it’s comforting to see that investors are recognizing the grinding wheels of this prolonged bull market are due for a little tune-up.

This is a good sign for the continuation of what’s quickly becoming the “Great Bull Market.”

All this makes me wonder if humanity is slowly learning its lessons.

The Great Recession caught us with our pants down. Perhaps the speculative behavior that led up to the last two recessions is being tempered by a more well-informed and savvy investing public.

Certainly, we still see the overvalued tech companies like WeWork and others being pumped like a Julia Childs’ Thanksgiving turkey with private equity capital. Unfortunately, few of these darling companies have means to generate justifiable revenue.

In general though, it seems investors might be learning from the lessons of the past. Can we avoid deep recessions like we witnessed in 2008?

Bottom Line: Recessions and market fluctuations are largely unpredictable. The global economy is slowing, but a deep recession may not be in the cards. I don’t know and you don’t either. To increase chances of successful investing, a passive approach is recommended for dummies like us. Buy regularly in all market conditions (dollar-cost-averaging), and hold those investments for decades.

A Bear Market Will Still Suck

But let’s be real: a bear market still sucks. And as an investor, it’s the bear market, not the recession that concerns us most. Of course, they tend to go together like spam calls and grandpa taking the bait.

Karsten over at Early Retirement Now recently asked Who’s Afraid of a Bear Market?

I am!

The linked article rightly points out that a bear market only lasts 1-2 years on average. However, it takes nearly five years (on average) to regain previous market highs!

Can your retirement portfolio withstand five or more years at a loss of 20% or more of its value?

Hey you guys, wanna see something kinda scary?

If a retiree is subsisting on investment savings and not in a wealth accumulation phase (i.e., no or limited income), more shares must be sold to generate the same amount of income.

For instance, if the market were to drop 50%⏤and there’s no margin in spending⏤the retiree must sell twice the number of shares to cover life’s expenses.

This puts us in a vulnerable place: irreversible asset depletion.

Bottom Line: A bear market, when it comes, can wreak havoc on your savings for years. This environment is a gift to investors, but a threat to retirees.

F. Am I Going to Retire Right Before a Recession?

Obviously, the worst time to retire is at the end of a bull market. But it’s not a kiss of death on your bitchin’ retirement, so long as you have planned ahead.

How are we preparing?

Number One: Save More Than You Think You’ll Need Before a Recession

How much is necessary for retirement? Is there a big difference in the fundamentals between an early and traditional retirement?

Surprisingly, not really. But sort of.

The 4% Rule

A safe withdrawal rate for a 30-year retirement horizon is considered about 4%. If your life costs $40,000 per year (after Social Security, pension, or other income is considered), you need $1,000,000 in savings to truly retire. This safe withdrawal rate accounts for modeling of past bear markets and yearly inflation, and also assumes a portfolio of 50/50 stocks and bonds.

If you need to live on your investments for more than 30 years, can you still apply the 4% Rule?

Many in the FIRE community do indeed extrapolate out the 4% Rule (i.e., The Trinity Study⏤wonderfully interpreted here) to much longer retirement horizons, of 40, 50, 60 or more years.

Surprisingly, the Mad Fientist summarizes that the 4% Rule holds up reasonably well to extended retirement horizons⏤a testament to the divinity of compound investment growth.

The 4% Rule Will Probably Work, But Should We Test It?

Regardless of the models, we still aren’t comfortable applying the 4% Rule to a retirement horizon beyond 40 or so years. I’ve seen a lot of models in my career, and I’d certainly never bet my livelihood on any of them!

Our plan is to save up enough to withdraw less than the coveted 4% Rule. We’re aiming to be at a safe withdrawal rate of ~3.25% (or less) by the time we need to tug on our funds. In reality, this figure should be even lower, because…

Number Two: Plan for More Spending

I’m starting to sound like a broken record: please don’t retire on a bare-bones budget brought on by unsustainable frugality. You will be miserable.

We recommend creating a budget that includes luxury for the items important in life. “Luxury” is in the eye of the beholder of course. A day in the dirt makes me plenty happy, but you might want something with a few more bells and whistles. To each their own, so long as it’s saved for.

Do you want to travel the world, or visit family more often? Fluff that line item up, my friend.

Do you want to eat at a nice restaurant once a week? Don’t leave it off.

Are you afraid of the potential of rising health care costs? You are not alone. Pad that figure like a Joe’s Valley boulder problem.

Do you love renting, convinced you will never own a home? I used to be that way too, now I’m a (mostly) happy home owner. Plan for changing tastes.

Number Three: Generate Small Streams of Income

I am not retiring at age 35. Nope, no way.

There is more that I want to do in this world than climb rocks and watch Youtube videos, although both will likely occur in great abundance.

If you haven’t noticed, I’ve written a host of articles with the theme of meaningful work, including The Entrepreneur: The Head of the Chicken, and Charles Sheldon: FIRE Before It Was Cool, or perhaps Creative Craig and His Incredibly Captivating Career.

It’s a critical element of the human spirit to work and do something hard every day. We’ve fortunately earned the privilege to do that work outside the confines of the traditional workforce, far less concerned about the size of the paycheck and more concerned with the fulfillment of the duties.

By earning a paltry $10,000 per year (for two people!), we can lower our safe withdrawal rate substantially, to around 2.3%. Anyone can rocket back in time and retire at the eve of the Great Depression and be just fine with that sort of withdrawal rate.

But what if there’s no work during a recession?

Good question. Full-time jobs are indeed harder to obtain in the depths of a recession. Certainly, however, we can analyze the endless ways to make $5,000 per person for an entire year, no matter what’s going on with the economy. Life still goes on, people and businesses still need at least part-time help in all economic conditions.

I could walk dogs on Rover.

I can help someone move a couch on TaskRabbit.

Wait, is moving couches worth leaving my high-income corporate job!? If it’s only once in a while, and I get a few bucks, some physical labor, and perhaps a good conversation…hell yes it is!

But what’s more likely is that I’ll pursue an entrepreneurial effort. I don’t know what that is (yet), but the bar to hitting $5,000-$20,000 per year is very low. That would be an unsuccessful business by almost any traditional metric, but not for someone who is already financially independent. Fail forward!

Even if our money were slashed in half by a treacherous and squawking market Pterodactyl, a yearly income of $14,000 would allow us to keep our full budget, luxury and all.

The math works. The key is to figure out what level of spending feels right, and multiply that by 25-30. Save and invest until you hit that number, add in a pinch of income, and you are good to go my friends!

Bottom Line: For retirees, any market conditions can be weathered with conservative planning. The 4% Rule is a good baseline, but is no guarantee against asset depletion. We recommend a 3.5% safe withdrawal rate, planning for increased future spending, and securing at least small streams of regular income (10%-30% of living expenses) to lower the withdrawal rate from your savings.

Breaking News: A Recession Kicks Ass If You Are Still Investing

How dare you Mr. CC?! Recessions destroy lives!

I know, they do, but recessions are also the metaphorical forest fire of the economic ecosystem. Recessions are a necessary evil to cap unfettered growth, and the wise and prepared will come out ahead in the end.

An investor has much to gain from a recession, or more specifically, a bear market. Stocks are on sale.

If you are early to investing, you should be doing a recession dance with your buddies around a bonfire. I’d rather you not, but I would if I were you.

If an investor has $10,000 invested, a market drop of 50% is nothing. I know, you will loose $5,000 for a bit, but that’s nothing my man. Try comparing that to someone who has many hundreds of thousands or even millions invested! Now you can understand why people freak out!

Again, a bear market is a sale on stocks. Don’t pass on the opportunity.

Should you wait to start investing?

No.

For all the reasons we mentioned above, we don’t know when a bear market is coming. The best time to start investing was any time in the past. The second best time is today.

What is keeping you from taking action today?

Bottom Line: The new or early-career investor has much to gain from a bear market. Stocks can be purchased on sale, allowing for higher growth potential. When is the best time to start? Now.

Still Confused? That’s Okay.

This is really all superfluous.

I enjoy the details of investing and markets, and it helps me feel comfortable about my plan.

Do you need to understand the nuances of recession indicators or past market behavior?

No, you don’t.

Three Simple Investing Tips That Work:

• 1: Examine your psychology. Are you comfortable with a little risk?

• 2: Decide an asset allocation: If you are okay with risk and market volatility, especially if you are young, go with at least 90% stocks. If you have more to lose or are more risk-averse, consider more bonds. Maintain at least 50% stocks. No more than a few month’s worth of living expenses should be kept in cash.

• 3. Invest regularly with automatic contributions. This can be through an employer-sponsored plan (401k or similar), or personal brokerage account. Don’t attempt to time the market; you will fail. Don’t move money in and out of “safe” or “risky” investments. You may rebalance to maintain your pre-determined asset allocation, but otherwise BUY-AND-HOLD. Finally, don’t pay a financial advisor to do something you can do better yourself (for free).

Still don’t know how to get going? Please check out the two posts below for far more details:

Part 1: The CC Family Investing Strategy: Philosophy and Asset Allocation.

Part 2: The CC Family Investing Strategy: Where Exactly is Our Money?

Summary: Recession, It Hurts So Good

Whoa, you guys really got me going again on this one. A lot of words folks, a lot of words.

I want everyone to stop being so afraid all the time. Stop with the hand-wringing and nail biting about a recession or the collapse of everything you have built.

It’s intriguing to see that people with the most also fear the most. It’s really no way to live.

A recession will almost surely come, one day. Or maybe it won’t. Maybe investors have learned their lessons. Perhaps we’re entering a new phase where market growth waxes and wanes, but avoids the sharp, speculative swings of the past. I like to be optimistic, but I don’t know.

A new decade is here. How will we frame it? Will we frame it in the eyes of the pessimist, seeing all the wrong in the world with the perception that it’s only getting worse? On the edge of impending social and economic disaster?

Or will we view 2020 through a lens of hope? Will we see the truly endless possibilities and opportunities laid out in front of us every day? Will we challenge ourselves to be just a teeny bit more badass than yesterday?

The narrative is yours. Let’s get on the good foot. (Try not dancing to that.)

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