Recession protection

August 8, 2011

By David A. Rosenberg
The opinions expressed are his own.

Moving increasingly to immunize portfolios from the rising prospect of a recession scenario while providing returns that cash, deposits and T-bills just can’t rival what we are doing at the investment committee and asset mix level of our firm.

Let me begin by saying I don’t think this will be classified as a “double dip” per se since so much time has elapsed since the last downturn. Be that as it may, it is evident that we will be going into another recession — I think at this point it’s only a question of whether it has already begun — with the levels of output, employment and income all lower now than they were prior to the last contraction phase.

Plain-vanilla, garden-variety business expansions and contractions that are influenced by the manufacturing inventory cycle tend to have recessions separated between five and 10 years apart. That was certainly the experience that economists came to understand and appreciate in the post-WWII era. But in balance sheet cycles, which involve deleveraging, rising savings rates and asset deflation, recoveries are fragile and susceptible to the smallest of shocks and typically, recessions occur every two to three years. This puts a recession by 2012 squarely in the spotlight.

I have already pegged a U.S. recession as a virtual certainty, and respected economists like Martin Feldstein in recent days stated the odds were 50-50 and Larry Summers is at 1-in-3. I am fairly certain that Paul Krugman is close to where I am on this file. All that said, recession risks are rising and until we receive another positive policy shock from the Fed, these risks will remain acute for some time yet. We are replaying the summer of 2010 but only when the white knights of radical monetary and fiscal stimulus resurfaced did the “double dip” chatter subside and give way towards renewed growth and risk appetite — at least for a few months.

You can still make money for investors without taking undue risk … and without having to shift into the ultra-safe world of zero percent-yielding cash or one percent GIC rates either.

Hedge funds that really hedge the risk or relative-value strategies that can go short low-quality and high-cyclical equities while going long a basket of high-quality and low-cyclical equities will be a money-maker in this environment. Those that have the capacity to short economically-sensitive stocks that trade at cycle-high P/E multiples may have an advantage in such a weakening macro and market environment.

A focus on hybrids or income-equity portfolios that have low correlations with the direction of the equity market and generate a yield far superior than what you can garner in the Treasury market makes perfect sense.

And if there is anything out there that is remotely close to “recession proof” it is corporate balance sheets and so an emphasis on credit is going to be critical — the idea is to be selective and identify those entities that have a single-A balance sheet but pay out a BBB yield.

We are believers that gold and gold mining stocks will prove to be profitable investments as the economic downturn inevitably prompts more money printing, not just out of the Fed, but other major central banks as well.

Commodities in general, energy and raw food in particular, should be a core position, as they are behaving less cyclically and more as a secular growth theme linked to the rapidly rising incomes in the emerging market economies.

The economy and risk assets typically hit a speed bump in a recession. That much is true, but investment ideas and opportunities within the market can still flourish even in a bear phase or a correction — cash should not have to be an option.

The key is to be positioned appropriately for the part of the business cycle we are on the cusp of entering. In a nutshell, what that means is carefully constructed investment strategies and portfolios that preserve capital, minimize cyclical exposures, enhance yield and thereby provide for significant risk-adjusted returns — even in a recession. In light of these heightened volatile times, we also realize that this is not necessarily a buy and hold market, and the ability to move into equity markets and take advantage of weakness should also be a part of the strategy.

This piece is from Rosenberg’s daily economic and financial market research publication, Breakfast with Dave.

One comment

We welcome comments that advance the story through relevant opinion, anecdotes, links and data. If you see a comment that you believe is irrelevant or inappropriate, you can flag it to our editors by using the report abuse links. Views expressed in the comments do not represent those of Reuters. For more information on our comment policy, see

[…] are your portfolios fairing? Things are turning out how we expected them to — we are positioned for this. We’ve been patient all year long. We never bought into the sustainability of QE2. Preserving […]

Posted by Market musings with David Rosenberg: we’re in a depression | The Great Debate | Report as abusive

If you talk with any bona fide economist who now or ever has modelled the US economy, they all use a breakeven point in the increase of GDP on the order of three to five percent. Recently, the Council of Economic Advisors set the figure @ 2.75% (with supporting justification).

There is also the artificial definition of a recession – two quarters of declining GDP. It could be one quarter, or two or three; it’s not some scientific definition. It should also be some period below the breakeven point, not zero, as we see in all the financial news. By the correct econometric definition, we are still in a recession. Also, since a recession that lasts more than two years is considered a depression.

When you factor in the deliberate under-reporting of the official unemployment rate, essentially ignoring long-term unemployed and classifying them as “no longer in the labor pool” and “no longer looking for work”, then anyone with a little common sense would conclude that we are definitely in a Depression. Don’t take my word for it. Ask Nobel Laurette Paul Krugman. Check with the United States Department of Labor’s Bureau of Labor Statistics. Both will tell you that real unemployment is grossly under-reported. 9% is a wildly optimistic rate that Congress and the Executive Branches love to repeat, knowing the real number is at least twice as high.

Posted by ptiffany | Report as abusive

[…] are your portfolios fairing? Things are turning out how we expected them to — we are positioned for this. We’ve been patient all year long. We never bought into the sustainability of QE2. Preserving […]

Posted by David Rosenberg: “we’re in a depression” « This Too Shall Pass | Report as abusive

[…] recovery in the wake of crises that defanged conventional monetary policy somewhere along the way got labeled radical, rather than simply nuts-and-bolts […]

Posted by Chickens coming Home to Roost « Sky Dancing | Report as abusive