Winter is coming?

On August 2, significantly worse than expected non-farm employment data triggered market turmoil, shifting expectations for the U.S. economy from a soft landing to recession. The "fear index" (VIX) surged, and risk-averse sentiment spilled over from U.S. stocks to global markets.

If a recession descends, how should it be dealt with? This article will outline possible layout directions.

Cash reserves

While recessions are painful, they are also an inevitable part of the economic cycle.According to statistics from Charles Schwab, since 1948, the United States has experienced a total of 12 recessions, occurring on average every six years.

Economic recessions are usually accompanied by bear markets, and market declines often occur before a recession arrives. Although the average duration of a recession is only 11 months, the market typically requires more than two years to rebound to the pre-bear market peak.

At this time, increasing cash reserves becomes crucial. Holding enough cash during market turmoil can prevent forced sell-offs during downturns, and also provides leverage to enter the market when it stabilizes and offers value.

The latest documents disclosed on August 3 show that in the second quarter of this year, Berkshire, under Buffett, accumulated cash reserves to an unprecedented 277 billion USD. After several consecutive quarters of new highs in cash reserves, the most recent quarter saw explosive growth in cash reserves, primarily due to significant Shareholding reductions in Apple Stocks.

Although the reasons for the actions have not been publicly explained, the market believes that the 'stock god' may be betting that the U.S. economy will fall into recession, waiting for cheaper entry opportunities.

Bonds

During the financial crisis of 2008 and the impacts of COVID-19 in 2020, in response to economic recession, the Federal Reserve significantly lowered policy interest rates to near zero. When policy interest rates begin to shift, U.S. Treasury yields decline, and the prices of Bonds tend to rise.

MorningstarStatistics from the eight typical recession Ranges since 1929 indicate that Stocks usually perform poorly during recessions, while Bonds record positive growth during all economic downturns. In addition to the influence of the Federal Reserve's policy shift, during economic turmoil, investors tend to turn towards safe, stable, and highly liquid Assets.

U.S. Treasuries offer a wide range of duration choices, from as short as 1 month to over 30 years. Generally, the longer the duration of Treasury Bonds, the higher the sensitivity to interest rate changes, and the greater the price fluctuations.

Holding a single Bond usually requires more effort, and for ordinary investors, using an ETF can achieve a more diversified bond portfolio.

There are various Bond Fund products with different durations available in the market, and investors can use Futubull's thematic ETF feature to find products that track U.S. Treasuries. The specific path is: Market > ETF > Thematic ETF > U.S. Treasury Bond ETF. Currently, the largest ETF tracking U.S. Treasury assets is the 20+ Year U.S. Treasury Bond ETF ( $iShares 20+ Year Treasury Bond ETF(TLT.US)$ ), which is also the longest-duration ETF product.

Investors who prefer a single Bond can also layout on Futubull. The specific path is: Discover > Wealth Management > Bonds > U.S. Treasuries.

Inverse ETF

During market downturns, using inverse ETFs for hedging is also an option. However, it is important to note that inverse ETFs are complex financial instruments that do not simply track indices, but instead employ various complex strategies involving derivatives (mainly futures and swaps) to achieve negative correlation with the index. These assets carry higher risks and may not be suitable for most investors.

The main issuers of inverse ETFs.Proshares.Explains the operation logic of the Funds. Traditional index Funds can match the performance of the benchmark index over any period of time, but inverse ETFs mainly meet the investment objectives or multiples for the day, requiring daily adjustments to the portfolio positions to rebalance their exposure to the benchmark index.

Holding inverse ETFs for more than one day often leads to deviations from the original goals of the Funds over time. Especially in fluctuating market trends, this can cause losses for inverse ETFs. The higher the multiple or the greater the volatility of the tracked benchmark, the more pronounced the impact may be.

Assuming the market has daily fluctuations of 5% over two days:

In an upward trend, the -1x Fund's ROI over two days is -9.75%; in a downward trend, if the benchmark index falls by 5% for two consecutive days, the ROI of the -1x Fund is 10.25%; and in a volatile market, if the benchmark index drops by 0.25% over two days, the inverse ETF similarly drops by 0.25%, failing to hedge.

The fees for inverse ETFs are also higher; for instance, the annual fee rate for those tracking the NASDAQ 100 Index is 0.2%, while the rates for the one-time inverse and three-time inverse are both 0.95%. $Invesco QQQ Trust(QQQ.US)$ $ProShares Short QQQ(PSQ.US)$ $ProShares UltraPro Short QQQ ETF(SQQQ.US)$ For investors looking to participate, it is best to understand the investment objectives and operation methods of the related products in detail.

Defensive Industries

Although the overall stock market performs poorly during a recession, some sectors remain relatively strong. Consumer Staples, Medical, and Utilities tend to perform well during recession stages.

Even when impacted by economic weakness, consumers find it difficult to easily cut back on spending in these areas, making them a "safe haven" during a recession. In contrast, Real Estate, Information Technology, and NENGYUANHANGYE may suffer significant hits due to their sensitivity to demand fluctuations.

Related Risks

Recent market expectations have been quite volatile, and the underwhelming July non-farm payrolls seemingly pushed the United States into recession overnight. However, as the new week begins, the non-manufacturing PMI slightly exceeding expectations has renewed the market's hope for a soft landing.

The poor employment data itself was also affected by adverse weather such as hurricanes, showing that although the labor market is cooling, it is not as severe as expected. The recently heightened interest in 'recession trades' is likely not going to materialize.

Although there is no FOMC meeting in August, the Federal Reserve will hold its annual symposium in Jackson Hole from the 22nd to the 24th. Federal Reserve Chairman Powell will deliver a speech at the event, clarifying views on the economic situation and future monetary policy, giving investors a clearer understanding of the U.S. economic condition.

Risk Disclosure: This content does not constitute a research report, is for reference only, and should not be used as the basis for any investment decision. The information contained herein is not a comprehensive description of the securities, markets, or developments mentioned. Although the sources of information are considered reliable, the accuracy or completeness of the above content is not guaranteed. Furthermore, there is no guarantee regarding the accuracy of any statements, viewpoints, or forecasts provided in this article.