U.S. stocks are officially in a bear market after they declined 22.5% through June. This would be the 7th bear market in the last 50 years, and within that small sample size, recessions have followed those bears markets 83% of the time, according to an article by John Rekenthaler in Morningstar.
But while the Dotcom crash of 2000-2002 technically qualified as a recession, it only lasted 8 months and the country’s GDP declined by only 0.3%. And if the bear-market standard is relaxed just a bit to set the qualifying number at 18%, that would expand the number of bear markets to 10 in the last 50 years. Out of those 10, only 4 preceded a real recession. Given that slightly larger sample size, the odds of a true recession drops to 40%.
While the U.S. stock market is considered a “leading indicator” whose performance is a sign of things to come, Rekenthaler found that bear markets didn’t actually precede a recession but followed it; in nearly every historical instance, a recession had already started by the time the market hit the 20% threshold. The economy’s problems were already obvious when the market entered that bear territory.
So is the current stock market trailing behind the economy? Rekenthaler wonders. He posits that the answer to that question is hard to determine. Real GDP shrank 1.5% during the first quarter of 2022, which could lead to a recession followed by a bear market several months later according to a regular pattern. But most analysts predict GDP to be positive in this year’s 2nd quarter, which would make a recession less likely. And it’s important to factor in the unemployment rate, the article maintains; in the past, bear markets arise after unemployment increases, but today’s unemployment rate is nearly the lowest it’s been in a half century.
Though evidence from the past tells us that a bear market usually signals a recession is already happening, Rekenthaler takes the positive outlook that if you loosen the qualifications for a bear market just slightly, differentiate between harsh and mild recessions, and factor in GDP-growth as well as unemployment rates, there is a strong possibility that a recession isn’t necessarily a foregone conclusion and the current bear market is “a false alarm.”