Prepare for a recession but stay on path

There isn't much you can do without knowing when, but this time you'll want to check on your fixed income: Steadyhand

Ruth Saldanha 16 December, 2019 | 1:30AM

 

 

Ruth Saldanha: At this late stage of the economic cycle and with global signs of a slowdown, investors are worried that we might be headed into a recession. Steadyhand believes that a recession will come, but timing one is almost impossible. So, what should you do about it? Tom Bradley, President and Co-Founder of Steadyhand is here with us to talk about that today.

Tom, thank you so much.

Tom Bradley: Thank you.

Saldanha: First up, what's the difference between a market crash, a correction and a recession, and which should worry us more?

Bradley: Well, let's start with a recession. Recession is an economic event. So, it's obviously a slowdown in the economy and recession is actually where instead of growing, we're actually shrinking or negative growth. And it can and indeed, sometimes does trigger a correction or a crash. So, a correction and a crash are market events. And I think your question is a good one because people sort of use them interchangeably and there's actually a very sloppy relationship between, what's happening in the economy and what's happening in the market? The media tends to portray them as being a very tight linkage. They are not. So, a correction is, I think, technically is a market decline of more than 10%. We have lots of corrections in this bull market. We had one in 2011, 2016, 2018 they're actually quite healthy for the market. A crash is no fun. I was around in '87 it's the most famous crash maybe and where things just melt away. They tend to be very fast, and there's some recovery pretty quickly, but they can be caused by a recession. But I think you've got to be careful because sometimes as I said at the beginning, they link, we link them to more closely than we should.

Saldanha: Tom, why do you believe we're headed into a recession?

Bradley: Well, it's not a timing call, really, Ruth it's just that it is inevitable. The economy is cyclical. It goes through ups and downs and we get ahead of ourselves and it has to we have to come back down to earth. What of course, exaggerates cycles is credit, the use of debt, borrowing to purchase things, and so we kind of get ahead of ourselves there too. We buy things that we really should buy later on, but we buy them now. And so, credit really exaggerates cycles. And we have had one of the great credit expansions in the history of mankind. So, it's at the consumer level, the corporate level and the government level. And so, we are setting ourselves up for a credit contraction, which will cause us to go into recession. So, I don't know when it will be, but I think we as investors have to be, it's not a matter of if, but when.

Saldanha: When we talk about recessions in a global context, Canada is often a footnote. So, for Canadian investors, what are some of the signs that we should look for and how much of an impact will a global recession have on our portfolios?

Bradley: Well, I think first of all and your word footnote is an interesting one because, for equity investors, it should be a footnote. I mean, a properly diversified portfolio is global in orientation is not very much impacted by the Canadian economy. And so, we never really worry about the Canadian economy when we're thinking about equity portfolios. On the fixed-income side, however, it can have a much bigger impact because of, yes, our bonds are going to stay somewhat in relation to and really have a relationship with the U.S. and global bonds, but our domestic economy drives interest rates here. So, if we have a weak economy, you're likely to see rates decline and vice versa. So, the bigger picture, it's what drives stocks, particularly is the global economy and that's what we focus on.

Saldanha: For our portfolios right now, what needs more recession proofing, the equity side or the fixed income side?

Bradley: Well, 99% of the time, I would tell you that it's equities, and everybody can suggest a sector that will weather the storm better. But I think today, where people should start is indeed on the fixed income side. Because we've come a long way from portfolios owning a few government bonds and savings bonds, very secure things that are very good diversifiers in a recession or in a downturn. Whereas today, we have a lot of credit, corporate bonds, riskier corporate bonds, like high yield even levered loans or direct lending. So, I don't think fixed income portfolios today are the diversifier and the protection that they used to be in and sometimes I think they've gone too far. So, I would start there as far as thinking about recession proofing. Actually, Ruth, I don't think we can do a whole lot in recession proofing because you never know when it's coming. But you want to make sure you're staying on plan both on the fixed income side and the equity side. And I'd start on fixed income.

Saldanha: So, what are some of the things that we can do to prepare?

Bradley: Well, I think the biggest, what I tell our clients is that the biggest dial they have on their dashboard is their asset allocation or asset mix. So how much – how much cash, how much bonds, how much stocks they have. And so, the fact that we can't really predict when that slowdown that market correction, that crash is coming, we don't think you should go and run away and hide and get it all into cash. But you want to make sure that you're staying on plan. And after 12 years of a bull market, it's very easy for a client to have it or an investor to be taking more risk today than they were two years ago, three years ago, five years ago. And so, we implore our clients, certainly to make sure that they're sticking to what they told us five and 10 years ago they wanted to do and not get carried away.

Saldanha: Thank you so much for joining us today, Tom.

Bradley: You're welcome.

Saldanha: From Morningstar, I'm Ruth Saldanha.

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Ruth Saldanha

Ruth Saldanha  Ruth Saldanha is Senior Editor at Morningstar.ca