Last week, official figures showed that the economy officially slid into a recession in the second quarter but the data only “confirmed what we already knew”, according to Fidelity’s Graham Smith.
The loss of economic output in the April-June period because of the coronavirus lockdown was widely forecast to be around 20 per cent but the actual figure came in at 20.4 per cent.
“The decline follows a 2.2 per cent contraction in the first quarter thereby confirming the first technical recession we’ve seen since the end of the global financial crisis back in 2009,” Smith explained.
However, “economies, of course, bounce back,” he added. “It’s possible we may even be emerging from the recession already – after the UK economy rebounded an impressive 8.7 per cent in June”.
UK GDP quarterly growth since 2005
Source: Office for National Statistics
The greater concern for Smith is around the number of jobs that may have been permanently lost as a consequence of the recession and pandemic.
The official employment figures reveal an unemployment rate of around 3.9 per cent, yet he believes these figures “probably mask a rapidly deteriorating real picture”.
According to Smith, the end of government backed furloughing in October “is bound to raise the rate”.
He also pointed out that the recently unemployed not actively seeking work are excluded from the official numbers and cited a KPMG report that predicts unemployment rising quickly in Q4 of this year, bringing the actual average rate for the year to 6 per cent.
Smith pointed towards the fact that technology has become crucial to a distanced, touchless society necessitated by Covid-19.
“Technology is already enabling large numbers of office workers to operate from home, presumably with a reduced need for the support services the daily commute and office life bring,” he said.
“It may be just as easy for manufacturers to see the current environment as a turn signal to a more digitalised, automated and less labour intensive world.”
Despite the outlook, Smith outlined some of the risks and opportunities that a recession could generate for investors.
Given that growth is a central requirement of most equity investing strategies, he explained what could happen when growth disappears - as it likely does in a recession.
He said: “Fortunately, stock markets have a powerful defence built in – the ability to look forward. That’s presumably why so many column inches are given over to what the eventual economic recovery may look like rather than the recession preceding it.”
Therefore the “indiscernible” response by UK stocks to the “depressing” GDP number – the FTSE barely moved when the figures were released last week – came as no surprise to Smith.
“This is largely a rational response,” he said. “History shows recessions are the foundations from which periods of growth are born and, for investors with cash to spare at the right time, chances to accumulate assets at attractive prices.”
Indeed, the past three recessions - in 1990-91, marking the end of the 1980s boom; in 2001 after the dotcom collapse; and lastly, the global financial crisis of 2007-09 – “all created attractive investment opportunities that would pay off handsomely over the next decade”.
10-year performance of the major indices from 2009
Source: FE Analytics
However, when it comes to the US stock market this may not be the case, as it is trading close to record highs despite the recession.
“Previous and expected future actions by the Federal Reserve and US government to flood the American economy with cash – as well as a preponderance of mega-technology companies helping people to stay in touch through the current crisis – have fortified stock prices,” Smith explained.
He said it could be rational given that digital initiatives have “fast forwarded us into the future,” and if new ways of doing things persist simply because they work better.
The US stock market is dominated by the stay-at-home tech companies such as Apple, Facebook, Google, Microsoft and Amazon, which all help to keep people in work amid the pandemic.
In other geographies, markets have a way to go to returning to their previous levels. Smith said the UK stands out in this regard, especially after entering lockdown while heading towards an uncertain Brexit trade deal.
A recession, however, has created a challenge for investors nearing retirement, especially with interest rates close to zero and lower expected returns from government bond investments.
Coupled with dividend cuts, which have reduced the returns from equity income funds, many income-seeking investors are short of options.
“While the saving grace of this recession might be that it is short, the recovery that follows may be unusually shallow given the damage wrought on the jobs market and continuing desire among large sections of the public to continue to avoid close contact situations,” Smith added.
Therefore in the event of a shallow recovery, he said “investors seeking income should have a multi-faceted approach” and avoid being overly reliant on any one strategy.
“Adding some exposure to corporate bonds or overseas dividend paying companies could be astute moves,” he finished.