by Adam Netland, Senior Asset Manager

When looking at financial markets and economies from a historical perspective, it’s important to recognize the recurring business cycle that is taking place. While no two business cycles have exactly the same characteristics, there are some general trends that are repeated. A business cycle has two major phases — expansion and contraction (recession) — and two turning points — peak and trough.

The National Bureau of Economic Research, which dates the phases of the U.S. cycle, defines a recession as follows:

A recession is a significant decline in economic activity spread across the economy, lasting more than a few months, normally visible in real GDP, real income, employment, industrial production, and wholesale-retail sales.

As of the beginning of 2009, the U.S. is most likely continuing the contraction (recession) process of the business cycle. When making investment decisions, it’s important to understand the business cycle and where we are right now. It’s kind of like looking at a map that has a pointed arrow stating “You Are Here.”

Early/Mid-Contraction (As of early 2009, “You Are Here”)

• Interest rates falling.
• New business orders falling off.
• Consumer spending down.
• Construction projects at low point.
• Bank loans shrinking.
• Bankruptcies start spiking.
• Unemployment rising.
  

Late Contraction (Trough)

• Profits trough
• Workers are very efficient.
• Mortgage rates gradually declining, house prices more attractive.
  

Early Expansion

• New orders and business activity perk up.
• Personal income rising faster than cost of living.
• Liquidity in economy and capital markets.
• Bank loans accelerating due to rising inventories.
• Companies increase hiring.
  

Middle Expansion

• Labor productivity peaks.
• Production capacity tightens.
• Short-term interest rates are heading up.
• Signs of inflation.
  

Late Expansion (Peak)

• Inflation is higher than usual.
• Companies are not as efficient.
• Profits peak and eventually start to decline.
• Short-term interest rates peak.

Early Contraction (Please go back up to No. 1, and repeat the process)

Time and time again we have gone through periods of economic struggle, but through ingenuity and perseverance, we have always managed to overcome these struggles. Over the long haul, we continue to improve our standard of living, have greater conveniences, and live longer than ever before. The importance of looking at a map is two-fold: 1) establishing that “You Are Here,” and 2) knowing the direction you are going from here. Using historical cycles as a measuring gauge, our economy is working toward getting back on track and heading in the right direction again.