Should you buy stocks in 2024 despite the biggest recession risk in decades? Get advice from Warren Buffett and Peter Lynch

According to the Federal Reserve’s forecasting tools, there is currently a 51.84% chance of a recession over the next 12 months. That may not sound significant, but the forecasting tool in question has only measured above 50% a few times since 1960, the last time being 40 years ago, and each event Occurred prior to or during a recession.

The chart below shows the probability of recession implied by the Fed’s forecasting tools dating back to 1960. Areas shaded in gray are classified as recessions by the National Bureau of Economic Research. Notice that the spike in the recession probability curve is closely correlated with the actual recession.

US Recession Probability Data from YCharts

While no predictive tool is perfect, the St. Louis Fed says that if the U.S. economy is not in recession one year from today, it will be unprecedented in history.

Stock markets usually fall sharply during recessions

Since 1960, the U.S. economy has experienced nine recessions, each of which resulted in sharp declines in the stock market.For context, benchmark S&P500 (^GSPC 0.18%) They fell an average of 32% during these events, with peak losses ranging from 14% to 57%.

In other words, investors may want to avoid stocks in 2024 because history suggests that the stock market will plummet in the next recession. But Peter Lynch and Warren Buffett probably wouldn’t agree with that decision.

Market timing strategies lead to losses and missed opportunities

Peter Lynch managed the Fidelity Magellan Fund from 1977 to 1990. Although this period was marked by two recessions and two bear markets, Lynch still achieved a 29.2% annual return, doubling the performance of the S&P 500.

One reason for that success was his ability to ignore temporary headwinds and instead focus on long-term capital growth. Lynch once said, “Far more money is lost by investors preparing for or trying to anticipate a correction than by the correction itself.”

Based on that, investors may find it prudent to exit the market and buy back in when the risk of recession passes. However, many of the market’s best days occur very close to its worst days, so trying to time the market often results in missed opportunities. In fact, 42% of the S&P 500’s best days over the past 20 years occurred during bear markets, and an additional 36% occurred during the first two months of a bull market (before it became clear that the bear market was over) .

Missing even just a few days can have devastating consequences. For example, his $10,000 invested in the S&P 500 in January 2003 would have increased 548% to his $64,844 by December 2022. However, if we excluded his 10 best days, his $10,000 investment would have increased his 197% to $29,708. JP Morgan Chase.

Buying opportunities exist in every market environment

Warren Buffett is one of the greatest investors in American history. Under his guidance, berkshire hathaway has become a $790 billion company, and its stock price has increased 43,000 times since he took over in 1965. Most of that value comes from his $371 billion portfolio, and Mr. Buffett controls the majority of those assets.

The most important thing for investors to know is that Berkshire has consistently put money into the stock market. The company has been buying stocks every quarter for the past 25 years, buying through bear and bull markets, booms and recessions. Buffett has yet to find a market environment where there is no buying opportunity.

That said, Berkshire invested more aggressively in some quarters, perhaps because valuations were more attractive. Investors should be aware that the S&P 500 index currently trades at 19.5 times forward earnings, which outperforms the 30-year average of 16.6 times forward earnings. This requires some caution, and investors need to be especially aware of valuations when buying stocks.

Buy stocks with economic moats, especially if they trade at a discount.

Warren Buffett favors companies with durable economic moats and prefers to invest in companies whose stocks trade at a discount to their intrinsic value. Investors need to understand both concepts.

Economic moats come in many shapes and sizes, but generally correspond to pricing power and cost advantages. for example, alphabet and Amazon We have pricing power that comes from our huge scale. Nvidia has pricing power due to the patented technology behind its artificial intelligence chip.and visa It benefits from cost advantages arising from its position as the largest card payment network.

In 1992, Buffett defined intrinsic value by quoting economist John Barr Williams. “The value of a stock, bond, or company today is determined by the cash inflows and outflows (discounted at the appropriate interest rate) that are expected to occur in the future” over the remaining useful life of the asset. ”

This estimate refers to the discounted cash flow (DCF) model, a somewhat complex formula that estimates a company’s value by discounting future earnings to their present value. Fortunately, there are plenty of his DCF calculators online. Investors should get into the habit of using one of these calculators to estimate the fair value of a stock before purchasing it.

The conclusion is: The Federal Reserve’s forecasting tools currently indicate that a recession is likely next year. Despite the risks, I think Lynch and Buffett still recommend buying stocks in 2024, if investors take the time to identify good stocks trading at fair prices. I believe.

Additionally, if the economy goes into recession, investors should treat the subsequent drop in the stock market as a buying opportunity. In Buffett’s words, “The best chance to deploy capital is when things are going badly.”