Four Important Signs A Recession May Be Imminent

Well folks, the bad times are clearly back again. There's a growing chance of a recession. What's worse, there might actually be stagflation, where inflation remains high while economic output declines.

For those of you who've been consistently investing since 2009 or earlier, experiencing a recession is just a part of the economic cycle. Bad times follow good times. Bad times create innovation and efficiency, which leads to good times again.

But if you've only been working and investing since 2009 or later, then experiencing a recession may be more jolting. We actually experienced a mini-recession in 2020 during the start of COVID-19. However, that recession lasted only two months.

The next recession will more than likely be longer. The impact of a recession on your livelihood will depend on your risk exposure, job stability, number of income streams, age, and cash balance.

Signs A Recession Is Imminent

After publishing my newsletter discussion on recession signs, I thought I'd write more broadly about the topic in this post. Then I can update the post as time passes with the latest signs.

1) The Yield Curve Is Extremely Inverted

An inverted yield curve is a reliable recession indicator.

In a healthy economy full of optimism, the yield curve is upward sloping due to the time value of money. A dollar today is worth more than a dollar in the future due to inflation. However, if you are pessimistic about the future, you tend to not invest in the future. Instead, you hoard cash and buy shorter duration Treasuries and other assets.

Thankfully, the Fed is close to done with its aggressive rate hikes.

You can track the yield curve through the St. Louis Fed, which has the best economic data around. Once the line below goes below the dark horizontal line, we have inversion.

Yield curve 2023

2) Long Bond Yields Spiking With Surging Energy Prices

Energy prices are surging due to the war in Ukraine. Given Russia is one big gas station, levying economic sanctions will hurt the global supply of oil and gas.

In a surging inflationary environment, longer-duration Treasury bonds would normally increase as bonds sell off. And that's exactly what's happening! The 10-year bond yield is at 4.8%, a 17-year high.

Investors would rather own safety and lose in real terms, rather than invest in risk assets and lose in nominal and real terms. In other words, wouldn't you rather still earn a nominal 1.8% return and a negative 5.7% real return in a Treasury bond versus losing a nominal 20% in the stock market and a negative 27.5%+ real negative return?

Most would say yes, which is why investing in I-Bonds and municipal bonds is so nice during a downturn. Treasury bond yields are at over 5% as well.

Brent crude oil price historical - Signs of a recession

3) Negative real wage growth is recessionary.

Although real wage growth is strong for lower-income earners, real wage growth is negative overall due to high inflation. However, unlike with negative real mortgage rates, which is great for real estate, negative real wage growth is negative for the economy.

Negative real wage growth simply means that the average wage is not keeping up with a basket of goods and services. As a result, the cost of such goods and services is getting more expensive and disposable income is declining if consumption is not cut.

BofA shows a chart that says if real wage growth is still negative by summer, the chance of a U.S. recession increases. Based on the way things are going, overall real wage growth is most certainly going to be negative for the rest of the year.

This data point is a good reminder to focus on building more income through investments, not labor. There's more friction trying to get a raise through labor (asking for one, job-hopping, etc).   

Negative real wage growth is a recessionary sign

4) Drastically higher energy prices have historically preceded a recession. 

Below is another chart that highlights the probability of a recession increases with surges in energy prices.

Surge in energy prices leads to a recession

It is incredible that on April 20, 2020, the price of West Texas Intermediate crude dropped by almost 300%, trading at around negative $37 per barrel. In other words, anybody trying to sell a barrel of oil would have to pay a buyer $37.

Intuitively, we all know that rising oil and gas prices make living more expensive. We need oil and gas to heat our homes, drive our combustible engine cars, fly, and produce other end products. Here are a couple of great charts by the U.S. energy information administration.

U.S. petroleum products consumption by source and sector
U.S. petroleum products consumption by source and sector

The Chance Of A Recession Occurring In The Next 12 Months

Based on these factors above, for the U.S., I think the chance of a recession occurring in the next 12 months is 70%. Here's a recession preparation checklist to survive tougher times ahead.

We could certainly navigate our way out of a recession over the next 12 months. However, the odds are currently not in our favor. The Fed has been overly aggressive in hiking rates. Energy prices are rising. Corporate earnings are slowing. And the housing market has completed halted.

The Main Recession Concern: Mass Layoffs

Right now, the labor market is robust. Nominal wages are going up and the number of job openings is hitting record levels. However, as publicly-traded companies see their share prices get hit, the propensity to hire decreases. The same goes for private companies that face valuation compression from competitors and investors.

Sooner or later, managers will be told to scale back their hiring and do more with less. As fewer jobs are available, wage pressure declines. As wage pressure declines, so does consumption. In industries where a significant portion of an employee's compensation is in the form of stock, the slowdown in consumption should be even greater.

Therefore, even if you are not concerned with losing your job, you should take steps to better solidify your job safety. Do more before being told to do more. Build stronger relationships with your managers. Have more friendly chit-chats with your competitors. Reach out to people before needing something.

If you job hop for more money and a better title, you could be the first to be let go during the next round of layoffs. Last in, first out (LIFO) is the standard way to cut. So carefully weigh the benefits and negatives before making such a move.

Here is a recession checklist to prepare for bad times ahead.

A Recession Might Not Be So Bad

Losing money in your investments is one thing. If we have the proper net worth asset allocation, we should be fine given recessions usually don't last longer than a year. We can always work longer to recoup our losses. Further, time is usually our friend when it comes to investing in risk assets.

However, losing money in your investments and losing your job is a terrible combination. Without the ability to work, it becomes much harder to invest on the low and make up for your losses. Violating the first rule of financial independence in this scenario is all but a certainty. Therefore, the importance of having side hustles and passive income investments increases.

The saving grace of a terrible recession is that both federal and state government have shown to step up and help. Most recently, the U.S. government provided enhanced unemployment benefits, stimulus checks, and PPP loans for small businesses. I suspect a similar amount of financial aid from the government during the next recession.

Investment Upside Post A Recession

The VIX, or CBOE volatility index, is currently trading above 30, an elevated level. The VIX is a real-time market index representing the market's expectations for volatility over the coming 30 days. Investors use the VIX to measure the level of risk, fear, or stress in the market when making investment decisions.

The good thing about an elevated VIX is that the next 12-month return for the S&P 500 is generally strong. If there is a surprisingly peaceful resolution to the war in Ukraine, we could easily see a 3-5%+ rally in the S&P 500. Have a look at this chart from investment house, Schroders.

VIX level and S&P 500 future return upside

CNN Money's Fear & Greed Index is also pointing towards Extreme Fear. This is another sign that perhaps we're getting close to the bottom.

What I Plan To Do If A Recession Arrives

My goal is to continue living the way I want even if a recession arrives. Living the way I want means spending more time with my children and less time working online. I also plan to travel more with my family to see my parents and in-laws. I'll just be poorer in the process.

I'm in an interesting position because I can't get let go from a day job because I don't have one. Well, I guess my wife could fire me!

All the work I'm doing online is mainly due to my joy of writing and connecting with like-minded people. Writing is like therapy. Writing also gives me purpose. If online revenue goes down, so be it. It has always been viewed as bonus money to help boost my passive income investments.

Although ~32% of my net worth in public stocks is getting hit, I'm still confident real estate will continue to outperform in a potential recession. I clearly remember owning several properties during the worst recession in 2008-2009. Not much happened as tenants continued to pay the rent and I continued to live in my primary residence as usual.

As a perennial optimist, I view a recession as a great time to reflect on what we want to do with our lives. The opportunity cost of building wealth and getting ahead declines during a recession. Therefore, if you can afford to, what better time to take things easier and enjoy life more?

If we have another recession, I don't think it will last for more than a year. Nor do I believe we'll experience greater than a 20% decline in the S&P 500. The best hedge against a recession is to continue living every day with joy and meaning. As a long-time FS reader, I'm hopeful you are prepared for whatever comes next!

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A Tool To Help Better Manage Your Finances

During times of uncertainty, it's more important than ever to stay on top of your finances. I recommend using Empower’s free financial tools to track your net worth, cash flow, and investments.

My favorite feature is Personal Capital’s retirement planning tool. It calculates your future expected cashflow and compares it to your realistic expenses. You can adjust the assumptions as you see fit.

With a likely recession coming, you need to do a deep-dive analysis on your net worth now. Don't just wing it with your finances. We've come a long way since the start of the pandemic. The last thing you want to do is give up all your gains.

Personal Capital Retirement Planner Free Tool - A recession is more and more likely
Personal Capital's Free Retirement Planner

About The Author

41 thoughts on “Four Important Signs A Recession May Be Imminent”

  1. hi sam I’m very new into finance I’m 35 year worked very hard all my life to be able one day to be financial free . my English is not the best sorry upfront , I invested in real estate in Las Vegas over the years and saved some cash that was worth a lot more before covid , speaking of covid I unfortunately closed my business due to covid impact on tourism.
    im facing the most Important financial part of my life without much knowledge about the right things to do , the cash I saved loosing its value every day and that get me to stress doing something with it and invest it , im thinking about more Realstate but that’s too many eegs in one basket especially if we going to recession prices should go down maby is should also sale part of what I already have or buy more >? inflation keep hitting and that’s confusing , my experience with stocks not very good I put 250k in the market and lost 30%
    so I only know Realstate , what do you suggest me to consider buy more or sale and wait? inflation is a killer and waiting cost me

  2. Hi Sam,

    I have the same profile allocation as you, i.e. 2/3 real estate and 1/3 stock/bond. Half my real estate is in the SF/bay area. With so much of my asset in an area that is earthquake prone, I can’t help but worry when the big one is coming, if ever. Like to hear your opinion on earthquake insurance (given that they have high premiums and high deductibles), I’m not sure if they are worth it. It will be great if you can write something about earthquake insurance and share your precious thoughts!

    1. I use the money I would’ve paid for earthquake insurance to retrofit two of my four properties in SF. The current House I’m living in at big remodeling and foundation work done in 2012. So it is much more up to code.

      Real estate is about 50% of my net worth, excluding my business btw.

  3. Bitter to Richer

    Overall, my strategy won’t change when it comes to investing – at least not for several years.

    That being said, job security is one of the reasons I’ve stayed at my current employer. The pay is middling, the benefits are unbeatable, and the work hours are low. Beyond that, I know I’d be one of the last to leave if layoffs happened, which are unlikely because of the need for more experienced professionals in my industry (and at my company).

    I could get a nice boost to my pay if I left, but sometimes that extra pay just isn’t worth it. There’s a lot more to these decisions than just picking the highest salary – it’s important to consider these things thoughtfully, especially if you’re supporting a family!

    1. I guess everything is a balance right? When I was working, I was motivated by pay, or at least higher and higher pay because I didn’t have as much money. But I thought I could have worked 30% less hours for 30% less pay, I would’ve totally done that.

      Enjoy the balance!

  4. Jonathan L.

    It seems silly to talk about recessions and layoffs given that “Job openings hold above 11 million, nearly 5 million more than the total unemployment level”

    albeit the bull market is 14 years old and counting (the blip in March 2020 doesn’t really count.)

      1. what’s even sillier is looking to CNBC for guidance :)

        Agreed Sam, Inflation is predicting recession, no way about it and Fed can’t thread the needle despite trying.. Yield curve inversion is a lagging indicator so even that might occur after we’re already in the midst of recession or even mostly through it. Like you said, it happens quickly and before you know it you’re in it and if not planned accordingly one can be up the creek without a paddle.

  5. Hi Sam,

    Do you think it’s good time to start a renovation project to improve life and home value? Due to the war, supply chain is not gonna improve anytime soon. Price are rising. Shall I wait or just get started?!

  6. Agree with everything, but think we need to be prepared for a civil war, world war, and/or combination of both – one that’s perhaps nuclear. This means gold, escape plan, etc etc. I will note that this comment is not coming from a so-called “prepper”.

    Also, and separately which was interesting, I noticed research today stating that while the majority of conservatives in this country would stick around, much like the Ukrainian people, to protect their Country, the majority of the liberal population would flee.

    1. Maybe not gold so much. In such scenarios think survival and barter economy.

      Buy a shack in the mountains for a nuclear winter/summer. HAve a few chickens and a bunch of seeds to plant for veggies. In times of disaster you would want things that keep you alive. We likely would enter a bartering society – exchanging potable water from a well on your property for maybe some clothes, or food you may want, etc. Maybe you rent out a portion of your shack to a family that lost their home to radiation.

      1. If we’re in the scenario where we’re worried about environmental radiation, survival is pointless. During the Cold War, when I asked my sister’s boyfriend at the time if he was comfortable living in Berlin (ground zero for a nuclear exchange), he said it wasn’t a problem as he would “go first and fast.” Words to die by.

        1. Agree. If you use your time/life now to prepare for a nuclear holocaust then you are already lost. You are wasting the good times on a small chance of survival. But that survival will totally suck. Go watch the movie “The Road” for a glimpse… I was of that mind in 2007 and took appropriate action. When i emerged from under my mattress I realized I was wasting my best years living in fear. 14 years later i shudder to think where I would be if i were still living in fear.

  7. Great article. I am not sure about the max 20% decline that. S&P already at 13%, and NASD (QQQ, VGT) already 20%. I think if the war goes on more than another 2 weeks and/or Putin looks like he might want to pick off another country, we peel off another 10-20% from the indexes until/if peace restored

  8. Great post Sam. I know you have mentioned in an earlier post that you recommend buying atleast primary residence as well as investing in heartland. For someone who is looking to buy real estate here in California, what would you recommend? Would you buy a physical investment property in bay area in current environment for long term hold or wait to see where the market is in a few months?

    1. There is always a deal to be had somewhere. I’m a believer in learning your primary residence as young as you possibly can if you know you plan to be there for at least five years or longer.

      In most cases, in 3 to 5 years, you’ll look back and be amazed at what good value you had today. Inflation and Price appreciation does that.

      I would just try to follow my 30/30/3 rule or Primary Residence rule before buying.

  9. Great article Sam. I always appreciate your candor.

    We’ve only got one life to live, I plan on spending as much as I can with friends and family. In the end, that’s all that matters

  10. Interesting times. This weekend where I am at the restaurants were full, concents were full, everyone seemed to be out spending money. The few remaining homes on the market, became even fewer. The jobs report going bonkers and it showing in the stores. Basically, one could assume the economy has never been better.

    1. It is interesting. People are indeed spending strongly, continuing to buy homes, travel, and live their lives.

      The thing is, we’re looking into the future. Hopefully, inflation gets tamed and energy prices also come down. And the irony is, surging energy prices helps reduce demand.

      and if energy prices can get back down, maybe things will get better again. We still got a 30% chance everything will be oK!

      1. Brett from Oklahoma

        In theory yes high prices cure high prices, but the time between starting a project and bringing it to sales has to be factored in. Current pad development in most basins has at minimum a 6 month lag time from start to first sales. So any pad started today would not have impact till August at the earliest. If the war slows down we will see a drop as the war premium will be removed ( $20/bbl) but that’s still oil around $100. I would not count on material increases in supply or a slow down in demand in 2022. Alternatives are running at max and supplying around 15% of total world energy usage with even longer lag time on new supply than oil and gas projects. Prices never stay high, but the mix of low new supply, high demand and geopolitical issues will make the drop slower. Goldman just announced today they predict average 2022 oil price of $135

        Inflation in double digits is possible now. A good look would be 1978-1982 and what the fed did then to calm that energy crises.

  11. Thanks for your thoughtful post Sam, always insightful. It is interesting times we are in. I know it is always dangerous to make predictions but I am curious your thought on how deep the recession will go in terms of the S&P and the DOW? Lastly, what is your best guess (I know this is completely a guess and for entertainment purposes only) as to when this March 2020 moment will hit bottom.

    I will throw out mine, I think the Dow gets down to the 29,000 area (S&P maybe in the 3500 range) and the bottom being Fall 2022.

  12. Manuel Campbell

    I would like to be able to predict a recession, but the reality is I don’t know.

    I still think there is plenty of money flowing around, due to past and current stimulus as well as ultra low interest rates policies. I think this is highly inflationary – meaning that companies will have no difficulties to increase their revenues. But dollars should flow more into “necessities” : shelter, transportation, food and utilities, and less into discretionary expenses : restaurants and entertainment.

    At the same time, there is the after-effect of the pandemic. I think people will spend more on things that were forbidden, like travel, and less on goods, like electronics and furnitures.

    Now, we also have the shock from the war between Russia and Ukraine. Russia will essentially be completely cut off from Europe and North America. This should be a pretty big hit for the economy worldwide. But I don’t know if it will be enough to trigger a recession. The shock should also be short lived, mainly felt through the second quarter, and may not hurt the economy more going forward, after the initial shock.

    My portfolio is very defensive. I have increased my positions in consumer goods and commodities in 2021. And I’m maintaining this position for the moment.

    If we end up in a recession, my plan is to turn to more agressive positions. These are generally great times to get the best deals. I will see what is on sale at that time.

    Markets have been pretty tough since the start of the year. But I also think it will result in a healthier stock market. It’s never good when markets are too frothy, particularly if we are looking to buy.

    1. Nobody knows the future, but we can all plan for different scenarios.

      Long-term, corrections are great. The biggest concern are mass layoffs As some companies have really taken huge hits over the past 12 months.

      I forgot whether you are still working, retired, etc?

      1. Manuel Campbell

        I am retired / full-time investor.

        The “hit” is only in stock prices. When we look at actual company results (earnings), we can see companies are doing great. The question is more : “will it last” ? My intuition is that there will be major shift in consumer spending due to 1) pandemic pent-up demand and 2) inflation driving spending more into necessities and less into discretionaries.

        There may be some mass lay-off in unprofitable companies, particularly in tech. But I see other sectors doing well and trying to hire more people, like in the oil sector, industrial equipment, etc.

        The reality is we are still in a worker shortage and it is likely to continue for some time. Companies that let go employees now will have difficulty hiring back at a later date. So they are more likely to “hoard” employees instead.

        Quite the opposite of what we have seen over the last 15 years …

          1. Manuel Campbell

            Didn’t knew you had a Podcast. Will add to my “watch list”.

            I have different view on the stock market. We may have a recession, but I think stocks will still go higher.

            For example, if we have a 7% nominal growth in 2022, but a 12% inflation rate, we will still be in a recession, with real growth (reduction) in the economy of -5%.

            Obviously, high prices of oil would be a big driver of higher inflation. Also, several companies have announced large increase in prices in 2022, from Procter & Gamble, to Sherwin-Williams and Nestle. And shelter costs have only been around 3% in 2021, but they could easily increase at a higher pace in 2022.

            Since corporate revenues and earnings may be up overall on a nominal basis, stocks should also be up. But they are down. Which is not really reflective of what’s happening in the economy. I think this downtrend will eventually reverse and we will reach higher highs before the end of 2022.

            The reason why I have no idea if we will have a recession or not is because I don’t know what the inflation rate will be. In the example above, if we still have 7% nominal growth, but the inflation rate end up at 6%, then we there would not be a recession.

            I think the two numbers will end up very close from one another, but I have no idea which one will be bigger than the other.

            In other word, I think we will have large nominal growth in the economy in 2022, but this will mainly due to higher inflation.

            I think the Fed will be very careful in rising rates and rates will remain relatively low for some time. So interest rates may not be as big as a drag as people expect.

  13. It is very unfortunate that it’s looking like we’re in for a recession. But having been in the market for multiple decades now, I’m not in shock. It’s never a great feeling to go through one, but we have to look at the positives like you said. I plan to stay focused on the things I can control and continue to make the most I can of each day.

  14. re: The best hedge against a recession is to continue living every day with joy and meaning.

    AMEN to that!

  15. 70% chance of recession (which is 2 consecutive quarters of GDP decline) is a big swing from where we were only a few weeks ago!
    What’s the likelihood of something bad, but not *as bad*? Maybe a slowdown in growth or a flattening instead of an outright recession? Maybe the Fed stops talking about raising rates. Maybe higher energy prices (and evaporation of stimulus) act as automatic brakes in consumption, so the inflation in other areas (supply chain/demand driven items) moderates because people have no money to buy.

    So real economic downside, but not a recession.

    1. Yes, As the saying goes, “life happens quick!”

      Just when you think you got a strong and all on something, something changes.

      I don’t think the next recession will be that long for that terrible. Consumers are cashed up with strong balance sheets. Lending standards have been tight since 2010.

      And corporate earnings are still recovering, given we are coming out of a pandemic. Earnings just might not recover as much as originally expected.

  16. Agree 100% that now is the time to make defensive moves in your career plans. In addition to going above and beyond as you mentioned, I would update your resume and LinkedIn profile NOW so you are ready in case a layoff takes you by surprise. Take the time NOW to read up on your company’s severance policies so you know the baseline from which to negotiate for more. Finally, start rekindling existing connections that you may have lost touch with NOW, not just when you need them — you don’t want the first time you’re getting back in touch to be when you’re asking for a job (tacky!).

  17. corneliu Nicolae

    What is your opinion on real estate? will it be a correction at least if people start loosing their jobs , etc? Forbearance is over, and soon enough people can evict tenants out. (LA County , CA)

    Thank you!

      1. hi sam I’m very new into finance I’m 35 year worked very hard all my life to be able one day to be financial free . my English is not the best sorry upfront , I invested in real estate in Las Vegas over the years and saved some cash that was worth a lot more before covid , speaking of covid I unfortunately closed my business due to covid impact on tourism.
        im facing the most Important financial part of my life without much knowledge about the right things to do , the cash I saved loosing its value every day and that get me to stress doing something with it and invest it , im thinking about more Realstate but that’s too many eegs in one basket especially if we going to recession prices should go down maby is should also sale part of what I already have or buy more >? inflation keep hitting and that’s confusing , my experience with stocks not very good I put 250k in the market and lost 30%
        so I only know Realstate , what do you suggest me to consider buy more or sale and wait? inflation is a killer and waiting cost me

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