Best Investment Strategy in Recession: Buy Stocks

Many investors have turned in favor of traditionally safe investments in bonds and money market accounts to protect their capital. While these investments rarely go sour, they are indeed more likely to fall due to rising inflation. Attempts to protect money from instability in the markets exposes investments to new threats: rising inflation and a constant devaluing of the dollar.

Inflation follows every recession

If anything has remained consistent, it is the sky high inflation rates that accompany even the smallest of recessions. When the market turns bearish, the Federal Reserve Board and government agencies and programs work to send fresh credit and liquidity into the markets. The influx of credit and fresh money sends statistics back to the positive, effectively ending a recession.

A recession is most commonly defined as two consecutive quarters of negative GDP growth. GDP is the sum of all government spending, consumption, gross investment and net exports. As you can see, the central banks and governments have the ability to easily skew the evidence for a recession. An increase in government spending, though not particularly productive, can be used to show growth. Inflationary factors, such as deficit spending, also increases GDP even though no real economic gain is achieved.

History of recessions

In the early 1970s, the money supply grew from $500 Billion to $600 billion, then the next recession in 1973-1975 again sent money supply upward by another $200 billion to $800 billion. The 1981-83 recession was arguably the worst, when the money supply rose from $800 Billion to $1.2 Trillion in 1984. The change represents a total change of 50%, a huge inflation rate.

Unfortunately, many investors seek safe investments that actually hurt more than fix portfolios. In periods of high inflation and low FED rates, the worst investments are bonds, which actually return less money than inflation. That capital would be best used in stocks or another instrument that appreciates as the money supply expands. Commodities and metals all have an inflation hedge and move up when inflation is at its highest. In an attempt to rid ourselves of risk, we’re turning to investments that aren’t investments at all, but actually quite the opposite. The best investment today is back into the strong growth stocks that make up the market while limiting investments in fixed income portfolios.

Bear markets shorter than bull

The best solution is understanding how the market achieves returns. While in a bear market, the stock market has historically dropped 30%, the recovery time usually yielded returns of 120%. What we lose this year should be further multiplied in gains after a modest correction.

The input of money by the Federal Reserve should also begin to hit the markets and consumers. Nearly $400 Billion worth of fresh loans direct to member banks and the $150 Billion economic stimulus package should start making its way to the market. However, what this means is that $550 Billion of new money will be chasing around the same amount of goods, thus prompting inflation. When the money starts making its way to the stock market, we can expect nothing but double digit gains fueled mostly by inflation.

It looks like the overall market might be in for a turnaround. The economic stimulus package alone should be enough to boost corporate earnings and hopefully pare some job losses. Economic news this summer looks better than the previous few months.