Friday’s jobs report sent the S&P 500 into a tailspin, hinting that Tuesday’s low was not the successful retest of the correction that some thought had ended on August 25. Regardless of the eventual low, investors remember that prices typically lead fundamentals, causing them to wonder if the current selloff is a warning that the U.S. is at risk of falling into recession.
But can the answer be that simple? Does a 10%+ decline in the S&P 500 predict that a U.S. recession will soon be at hand? Not according to history, which shows that while all recessions were preceded by corrections or bear markets, there were nearly three times the number of 10%+ declines than there were recessions since 1948.
While all recessions were preceded by stock market declines in excess of 10%, not all of these recession-forecasting declines were bear markets. Three were corrections. In all, 67% of bear markets (eight of 12) correctly anticipated an impending recession, while 1/3rd of them were false alarms. In addition, only 16% (three of 19) of all corrections accurately projected the approach of a recession.
What’s more, the corrections that did correctly signal an approaching recession were relatively mild, as the S&P 500 fell from 10.2% to 14.8%. Conversely, the five corrections that fell by more than 15%, did not accurately predict that a recession was right around the corner. In all, the number of 10%+ declines (31) exceeded recession counts (11) by a near 3-to-1 margin.
As a result, MIT economics professor and Nobel Laureate Dr. Paul Samuelson’s amusingly accurate statement that “Wall Street indexes predicted nine out of the last five recessions” should probably be updated to read “The S&P 500 has anticipated 31 of the last 11 recessions.”