Fact or Fiction? Test Your Knowledge About Investing During a Recession

How much do you know about investing during a recession? 

This knowledge is becoming more valuable as the likelihood of a U.S. recession grows. The New York Federal Reserve estimates the probability of a recession occurring within the next 12 months at 71%, up from 6% in May 2022.

Amid this economic uncertainty, this quiz from New York Life Investments can help you test your knowledge.

The first image presents a statement and you can guess whether it is “fact” or “fiction”.

#1: Timing of Stock Market Bottoms

When do you think the market low occurs during recessions? Is it before an official announcement is made?

Swipe right to see the answer and explore data from past recessions.

The S&P 500 market low occurred before the National Bureau of Economic Research (NBER) announced a recession in four of the last six recessions. The exceptions were Reagan’s Recession in 1981-1982 and the Global Financial Crisis in 2007-09, which both lasted more than a year. 

Since the NBER waits to make an announcement until they are certain a trough in economic activity has occurred, their declarations have historically happened 4-21 months after a recession has started. 

Investors should avoid fear-based portfolio decisions when a recession announcement is made because, in the past, the worst market losses have typically already occurred.

#2: Investing During A Recession

Is it a bad time to invest when economic activity is declining?

Stock markets are a leading indicator, meaning they point towards the future direction of the economy. Historically, they have begun to recover before a recession was declared over. 

In fact, S&P 500 gains averaged 40% from market lows until the date the NBER announced the end of a recession. People who avoided investing during a recession and waited until it had clearly ended would have missed out on market gains.

Not only that, stocks may be attractively priced given that price-to-earnings ratios have dipped near the beginning of most recessions since 1980. For instance, the S&P 500 P/E ratio dropped from 27.73 in January 2020 to 22.22 in March 2020.

#3: Sector Performance During Recessions

Does the performance of sectors like energy or real estate vary over the course of a recession?

The health care sector performed the best overall during the last 3 recessions, as shown by the black dots. We measured this by comparing the monthly return difference between each sector and the S&P 500 overall.

However, certain sectors have outperformed either at the start or end of recessions. Financials and real estate were some of the worst-performing sectors, but saw strong rebounds near the end of economic downturns. For instance, real estate had monthly returns nearly 6% higher than the S&P 500 during the last 3 months of recessions.

Given that the exact timing of a recession is hard to determine in real time, investors may want to consider diversifying their sector exposure.

Making Informed Decisions

While economic downturns can make investors fearful, history has given us insights into investing during a recession.

• Avoid panic selling: The worst market losses have typically already occurred by the time a recession is officially announced.
• Explore market opportunities: If an investor waited to invest until there were clear signs a recession was over, they would have missed out on market gains.
• Diversify sector exposure: Sectors like energy outperformed at the start of recessions, while sectors like real estate rebounded at the end.

By considering these tips, investors may be better positioned to remain resilient.

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