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  • The duration of a bear market may depend on if we enter a recession.
  • It could be a great time to buy low P/E, profitable companies 
  • The healthcare sector is producing significant relative returns lately.

The potential for a recession, formerly defined as two consecutive quarters of declining gross domestic product (GDP), is popular among economists, analysts, and stock pickers. The reason is simple. Historically, stocks have taken longer to recover when a recession accompanies a bear market.

Over the weekend, market wizard Mark Minervini shared a chart from Ned Davis Research showing how the S&P 500 typically acts following an 18% decline when the drop is and isn’t accompanied by a recession.

Traditionally, the S&P 500 is up three months later in both cases. However, the market declines further before it rebounds, and it’s back to its losing ways four months later, in the recessionary analog. One year later, the non-recessionary scenario is higher, but the recessionary example is essentially sideways.

Since it takes longer for stocks to get back to their winning ways when a bear market coincides with a recession, avoiding one would be the best-case scenario for investors. 

However, we may already be halfway to being in an official recession because the first look at the first quarter GDP was -1.4% last month. We’ll get the second first-quarter estimate on May 26. But we have to wait until July 28 to get the first estimate for the second quarter. Therefore, it will be a while before we know for sure if we’re officially in a recession, or if it's still looming.

That doesn't mean there aren't stocks you can buy, though.

In "Fight Fear, Follow Facts,” Real Money Pro’s Paul Price reminds us that “There has never been a permanent bear market in America. Every major sell-off was just setting the stage for future all-time records.”

You can see what Price is talking about in the following chart, which shows the S&P 500  (SPY)  since the Great Recession. Although it took time for stocks to repair themselves from the damage inflicted in 2008/09, 2018, and 2020, each set the stage –eventually- for a significant move higher.

S&P-500-Chart-042722

Back to Price:

“You only get so many chances to buy terrific companies at fabulous price points. This is just the seventh one since March 9, 2009, the beginning of one of the greatest bull runs in history…

It is far too late to be holding tons of cash. Traders loading on owning put options or shorting shares of decent companies are likely to get their heads handed to them.”

Price argues the fact that the market is so far extended below its 200-day-moving average means the 'right' time to make big bearish bets may have largely passed. According to Price, "Buying stocks when the S&P 500 is far below both its 50-day and 200-day moving averages has never failed to produce outstanding profits...The further below those levels, the more intense were the rebounds."

That doesn’t mean you should be buying just ‘anything’, though. 

Price believes the best option for investors exists in value stocks trading at historically low price-to-earnings ratios. In his view, profitable companies with low P/E ratios offer better risk-to-reward ratios than beaten-up, yet unprofitable companies. 

He  concludes, “Ignore the money-losing firms in favor of highly profitable ones with insanely low valuations.”

The Smart Play

Since recessionary- bear markets can last longer than bear markets unaccompanied by a recession and the Federal Reserve is laser-focused on slowing GDP, spreading out your investments over time may be wise.

For example, if you have a specific amount of money held in cash, you could divide the amount you want to invest by 12 or 18, and then, invest that amount every month for the next year or a year and a half (Note: Historically, the third and fourth years of the Presidential Election year cycle are strong, so that’s why I’m targeting a 12 to 18-month period.)

As for specific sectors worth targeting now, large-cap healthcare stocks are producing solid relative returns lately. 

The following chart shows monthly performance relative to the S&P 500 ETF for the four horsemen (Energy, Financials, Healthcare, and Technology) using ETFs as a proxy. 

As you can see, the SPDR Select Healthcare ETF  (XLV)  is producing solid excess returns to the market lately. Energy stocks have been big winners since last fall, too.

Chart

Because the business cycle favors healthcare in the late- and the recessionary-stages, it could be a good time to hunt for low- P/E profitable companies in that basket. Energy stocks don't tend to do as well in recession, though, so consider using trailing stop losses if you buy stocks in that sector.

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