The Recession Is Coming But There Are Still Profitable Market Plays

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Includes: AMTD, CY, ETFC, INTC, MU
by: Gary Bourgeault

Summary

Ominous signs the recession is not that far away.

Investors need to start discounting the recession.

Money can still be made leading up to the recession.

Sectors that are hot now.

What sectors appear to be undervalued.

source: DIRJournal

It's no secret the "recovery" has been an unusual one, as normal economic metrics have been below historical trends, including GDP growth, wage growth, labor force participation, CapEx by businesses and productivity. These weaknesses have been overwhelmed by major gains in the performance of the stock and bond markets during that time, as well as real estate.

What that suggests is the so-called economic recovery hasn't been a real one by historical standards, but one associated with asset prices. As the global and U.S. economies slow down, it's becoming apparent the growing number of risks presented by the upcoming recession, which based upon comments from Savita Subramanian, Bank of America-Merrill Lynch's head of U.S. equity and quantitative strategy.

She said if indicators remain on trend, the recession will hit in the last half of 2017.

"We looked at all of these indicators that have been pretty good at forecasting recessions and we extrapolated that if they follow the current trends they're on, we're going to hit a recession sometime in the second half of next year."

There is of course no certainty concerning the exactness of this projection because trends can adjust in the real world, but there is not doubt a recession will happen before the end of the term of the next president, and investors need to start discounting this. They also need to look at how it will impact their portfolios.

Current "recovery" running on fumes

The economic recovery is now at just under 90 months, starting in the summer of 2009, and as it stands, represents the fourth-longest period of expansion since about 1945. Since the end of World War II, the average recovery has lasted a little over 60 months, according to data from the Bureau of Labor Statistics and National Bureau of Economic Research, cited by Peter Schiff.

Not only are we due to a recession, but the expansion period itself has been very weak, as mentioned earlier. For example, under this period of expansion, GDP has never grown annually at a 3 percent rate. That points to the strong probability of when the recession hits, it could be a devastating one.

As for the last three quarters, we've seen GDP in the U.S. average only a 1 percent growth rate, according to the Bureau of Economic Analysis. We're quickly moving toward economic contraction, if we aren't in reality already there.

After central bankers doing all they were able to do to boost economies, there is little if anything left in their arsenals to keep the global and U.S. economies from going into recession.

The market will be punished severely

While we all no the market gets hammered during recessionary periods, but based upon what happened in January, it underscores the potential to get crushed once the next recession is obvious to investors.

In January 2016, the fragility of the market was obvious, as only a hint of economic weakness sent the S&P 500 down to about 1800. That suggests to me there are a lot of investors growing increasingly worried over the prolonged period of a weak recovery, and believe the next recession will be a deep and prolonged one because of the extraordinary debt load in the world because of cheap money.

Another reason for the market getting crunched over time is what appears to be a dramatic change in Fed policy, as revealed by Chairman Janet Yellen recently in Jackson Hole. She said current tools used by the central bank may lack the power to "to deal with deep and prolonged economic downturns." What that meant was the Fed could start to acquire more than just government bonds, but start buying private securities. Europe has already taken those extraordinary steps.

The International Monetary Fund also said in its most recent meeting that the past separation between fiscal and monetary policy. The idea there was in the near future central banks should start to offer very low interest rates to support government infrastructure projects.

Christine Lagarde asserted this:

"The current low-interest environment provides an historic opportunity to make these necessary investments."

Central bankers from the U.S., Japan and Europe are increasingly supportive of these strategies.

All of this is terribly ominous for the market, as these central bankers and institutions like the IMF are going to make things much worse as they try to disrupt the business cycle and artificially prop up national economies.

As it stands we're probably going to have to endure a significant recession, these other steps will only prolong it when it comes, and in the future, set us up for even worse economic consequences.

All of this said, there are still sectors that are hot at this time, and in some cases, look to be undervalued.

Sectors that have been hot lately

As well know, no matter what the market conditions, there will always be winnings sectors investors can count on to make some decent gains. That's no different now, even as the U.S. and global economies start to slow down and approach the contraction stage.

I would only consider any of these sectors as a short term investment opportunity, but they should do well for traders having their stops in place to protect them once they start to lose steam.

One of the leading sectors to invest in has been semiconductors. Since June they have taken off, and after Brexit they've exploded. Of course the overall tech sector has been on fire, and this should continue on for at least the next several months.

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source: StockCharts.com

Among many semiconductor companies doing well are Intel (NASDAQ:INTC), Cypress (NASDAQ:CY) and Micron (NASDAQ:MU).

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source: StockCharts.com

Another outperforming have been brokerages.

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source: StockCharts.com

Over the last several months the sector has been up over 18 percent. Among the better performers are TD Ameritrade (NASDAQ:AMTD) and E*Trade Financial Corp. (NASDAQ:ETFC).

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source: StockCharts.com

It looks like the reason brokerages have been performing so well is because nervous traders have been moving in and out of the market, generate significant revenue from the increase in trades. This will probably continue because of the uncertainty and lack of clarity many investors have concerning the timing of the next recession. That will generate the volatility brokerages benefit from as investors buy and sell equities at very quickly.

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source: StockCharts.com

The other profitable sector has been banking - specifically big banks - which under the low interest environment, had been underperforming. This sector has been the only major one not returning to pre-recession 2007 levels. That has started to change over the last three months.

Since low interest rates have been the major culprit, my assumption is this breakout has come from the market believing interest rates are going to be increased. Since a lot of this is predicated upon Fed policies, it does have a lot of risk based upon whether or not the market believes interest rates are going to be pushed up.

Undervalued sectors

A couple of sectors that should do well going forward are technology and health care, which on a relative basis are undervalued in my outlook.

For tech, I see nothing at this time that will slow the momentum, and that should continue on until it's absolutely clear the recession is imminent.

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source: StockChart.com

Health care in my opinion offers the highest potential of the two because of the Hillary Clinton factor, along with the belief the season of mergers and acquisitions is probably over.

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source: StockCharts.com

Clinton has expressed animosity toward the health care industry, including drug companies, and that has weighed on the performance of the health sector because of the uncertainty in regard to what will happen is she wins the Presidency.

The opportunity comes in the fact the sector is growing while trading at very low multiples. There is a lot of quick money to be made when it rebounds. Even in the unlikely event Clinton wins, it's not likely she would have the power to really make a lot of changes concerning health and drug companies. But the market isn't taking that into consideration at this time, so it's probable health will remain under pressure up to the election, unless Clinton signals a chance in her outlook, which probably isn't going to happen.

Conclusion

There is no doubt a recession isn't that long away, but there are still plenty of opportunities to make some money in the short term, but the long-term holdings of investors' portfolios will have to be looked at closely, depending on the age of the investor and the specific strategy and goals of the individual trader.

Central bank practices and the growing debt load of individuals, companies and governments point to some potential scary scenarios for investors not taking steps to adjust their portfolios in light of the growing risks and lack of visibility in regard to an economic environment the world has never faced before, meaning that which has been induced by the interference of central banks in the global economy.

Even worse, as the economy falls apart, there are already hints central banks could take new and extraordinary measures, which when based upon history, will almost certainly make things worse and prolong the recession, as it did during the U.S. depression.

That said, there will still be ways to make money leading up to and during the recession, and at this time semiconductors, large banks and brokerages have been doing well. Tech in general and health care stocks are undervalued, and should generate decent returns. Tech will perform better in the short term, while health care stocks, from this point in time, will outperform further out.

The main thing to take into consideration is there is a recession coming, and portfolios need to be closely analyzed and possibly as to what companies will hold up best during those economic conditions. This is especially true with companies investors plan on holding for a longer period of time.

Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.

I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.