How Long Will It Take To Recover?

"The only function of economic forecasting is to make astrology look respectable." - John Kenneth Galbraith

The tongue in cheek quote was from one of the world's most prominent economists, but certainly there is a large dose of reality to it.  Trying to predict the future is all but impossible and many a trader longs to be just one minute ahead of the market as untold billions would be made in a very short time.  That is what makes forecasting so enticing - when you get it right the world is your oyster and a fortune can be made.  More often than not you get it wrong so the bet is hedged with the obvious result of watering down your returns.  This is why you so often see a young buck make spectacular returns and then loose it all in a matter of a few years.  One big bet on the correct horse and the financial rewards are mouth watering.  With all this said I will make my best estimate for the recovery of the economy.  The reason that I want to lay this out is that this is (or should be) the basis for investing your portfolio and is the reason why I remain skeptical in the current stock market run.

The first part of the equation is to look at where we have come from and place it in a frame of reference.  The economic shock that the world has experienced and continues to work through was on the scale of the Great Depression.  It has been labelled the Great Recession as the unemployment and other metrics were not as dire as during the Great Depression due in large part to the massive rounds of quantitative easing performed by the central governments around the world.  In fact this quantitative easing is still continuing and looks set to continue for the foreseeable future as without it the global economy would slump back into a recession in fairly short order.

This size of the government stimulant packages have never before been seen.  Globally it is crossing more than $5 trillion (by my back of the envelope estimate).  Governments around the world are awash with debt that has either been recently created or has been shouldered to rescue banks and other companies from default.  This massive shift of debt to governments has caused a unique situation whereby there is a crowding out effect on a global basis.  This crowding out (as I mentioned in a previous blog) will dampen global growth by at least 1% per year for years to come.  This drag will slow the global economic recovery and will make it seem as if the world is in recession for an extended period.

Studies have shown that a typical time frame to recover from a financial crisis is between 6 and 10 years.  Suppose that we take this a starting point and add this to the beginning of the crisis which began in 2008 then we would expect that a "normal" economic environment would start to be felt somewhere between 2014 and 2018.  As it is now only 2012 we still have some time to go however it is my expectation that as this crisis is on a scale far larger than most that this recovery will take longer than "normal".  Also it is my contention that during this recovery period recessions will be more common place and that recovery periods will be short lived and will feel like we are still in a recession.

Based on my analysis and the studies that I have performed I believe that the stock market while it is still aloft is flying with one wing and that the next economic shock will cost investors dearly.  Furthermore I believe that the economy has at least another 5 years to go before we will be able to see quantifiable solid economic data.  In the interim the market will wobble along with wild swings in both directions but will always be more susceptible to downside surprises than upside moves.

Look to your portfolio in terms of its risk profile and keep it in low risk ventures or risk taking another beating on your stock investments.  Certainly looking at the market it looks like 1987 or 2007 all over again and for those of you that have been around for a while you will know that neither of those years ended very well.  As Kevin Flynn of Seeking Alpha noted this week "the market may be escaping, but the economy isn't".