On March 22, an economic warning sign flashed: The treasury yield curve inverted.
This yield inversion—which is what happens when long-term rates drop below the yields for short-term bonds—is long heralded as an early warning sign for a recession. For example, the last time this happened was in July 2007, which was just enough notice for investors to prepare for an economic crisis just a year away.
But is the yield curve enough? What are the signs of a slowing economy, and how might you recognize further deterioration worldwide?
Signs of an Economic Slowdown
"No one could have predicted this." That's a familiar refrain when an economic crisis hits. And it's true to a certain extent. But is it really so difficult to imagine that worldwide economic factors are pointing in a negative direction? Maybe it's a challenge to time the market, but there are definite signs of an economic slowdown, such as:
- Weakening growth in the eurozone. Factors like the impact of trade wars and weakening exports have led to projections of weakening in the eurozone. With a declining forecast for gross domestic product growth across Europe, there's less room for the world economy to make strides toward positive growth.
- The end of a business cycle. The bull market, which has lasted since just after the Great Recession, is due to flip to a bear market, if we're to believe that business cycles tend to last about a decade. "Many worry about another downturn," writes the Economist, and in 2019 the International Monetary Fund lowered a forecast of global growth to 3.3%.
The warning signs may not be flashing red just yet—but they are certainly telling us to be cautious as investors.
What to Watch to Prepare Yourself
Of course, signs of an impending economic slowdown aren't always enough to justify taking money out of the markets and waiting out the impending storm. What if it still takes one or two years before a recession hits?
The key is to watch for important signs along the way, including:
- Sentiment. Both consumer and business sentiment are important factors, notes Bloomberg. Bookmark surveys like the University of Michigan Surveys of Consumers, and check in regularly to see what's going on in consumers' minds. Also pay attention to any news reports that quote "sentiment" in negative terms.
- International growth. If economic slowdowns occur before they hit the United States, it will still affect the United States' ability to trade overseas. That could lead to further diminishment of growth—a veritable self-perpetuating cycle that occurs just before a global economic slowdown.
Steps to Take to Protect Yourself
During the Great Recession, how were everyday people affected?
Consumer spending and business investment dried up. According to the Center on Budget and Policy Priorities, The U.S. lost 874 million jobs, 401(k)s and other types of retirement plans cratered, and those who sold at the bottom realized the losses.
The important thing is not to allow a recession to take over your emotions as an employee and as an investor. There are steps you can take to protect yourself and prepare for a recession in advance.
- Build a private emergency fund. If you rely on one source of income for your work, then it only makes sense to build an emergency fund that can cushion your fall in case you get fired. Yes, it's nice if a company can offer you a severance package; but why not build one yourself while the times are good? Most personal finance experts recommend building an emergency fund of at least three to six months’ worth of living expenses. This will give you time to continue living at your normal income while you search for a new job and secure a new source of income.
- Prepare emotionally. When an economic crisis hits, your stocks and investments will take a hit. Prepare to see your net worth drop as much as 40%. Too often, investors forget the emotional impact of the fears stirred within a recession. But if you view the stock market as a roller coaster, make sure you don't get off at its lowest point. Maintain a long-term view of the stock market, and remind yourself it might actually be the best time to buy. However, make sure you can afford investments and can pay for your expenses; credit cards can be your best friend and worst enemy during a recession.
- Hedge your bets. Hedge investments like real estate can give you stability while the economy crumbles. Owning a home, for example, reduces the strain on your budget and encourages you to continue saving even during a recession.
With an emergency fund in place, you'll have the confidence you need to deal with a slowing world economy—even if a crisis hits suddenly and unexpectedly. Watch the warning signs, prepare and understand that the business cycle is not always something to be feared.
Joe Resendiz is a Research Analyst at ValuePenguin, where he focuses on personal finance and credit research to assist consumers. Previously, Joe specialized on public sector and infrastructure financing at Goldman Sachs. He graduated from the University of Texas at Austin with a BBA in Finance.
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