The combined credit, housing, and financial crisis has left our nation stuck in the biggest economic mud puddle in a quarter-century. Our economy, along with many other countries’, is spinning its tires right now. The question on everyone’s mind is the same: When will we get traction or will we just continue to spin a deeper hole?

Throughout history, recessions and depressions have occurred many times: this is the 11^th recession since 1948. And, due in no small part to the media, each of them brings more fear and uncertainty than the last. The question is always… “What if this time it is different than the past?” The answer in the 40s, 70s, 80s and today is the same… “It could be.” The flip side of that question is… “What if it is not?”

The thing is, recessions and depressions are a natural part of the economic cycle. In times like this, it is extremely important to remember the basics: relate to the facts and only make decisions based on our disciplines and rational thinking – not on our emotions.

The Basics: King Solomon stated, “There is a time for everything…A time to give birth, and a time to die; a time to plant and a time to uproot what is planted.” Cycles exist with everything, whether it is a human life, in nature, or our economy. In a perfect economy, the balance between the production and consumption of goods and services (supply and demand) would be equal. But we don’t live in a perfect world and at some point supply will be greater than demand, earnings will slow, money supply will tighten and a “correction” will need to be made. Unfortunately, accurately foreseeing the time of these corrections is almost impossible and their existence is almost inevitable.

The 4 segments of an economic cycle can generally be described in brief:

• Decline. Periods of economic decline have historically coincided with rising inflation (high prices) and rising interest rates (high borrowing costs). Consumers and businesses then begin cutting back on spending, which lowers overall demand for products. Less demand meant slower business (which could lead to job cutbacks), and if business slowed too much, the economy would slip into a recession.
• Recession. As consumer and business demand for goods and services falls, inflation eventually subsides as well. Interest rates then follow and begin to fall. Unemployment rates are often high during the depths of a recession, and overall production is low. But these factors combined set the stage for the next part of the cycle.
• Recovery. During an economic recovery, inflation and interest rates continue to fall, as do unemployment rates. Consumer and business demand for goods and services slowly pick up, leading to an increase in overall production. As production rises, consumer confidence rises as well.
• Expansion. When the economy is “booming,” consumer and business demand is high. Unemployment is low. Consumer confidence is high. Yet even in these “good times,” the seeds of the next decline are beginning to take root. Higher demand for goods and services will eventually lead to rising inflation and interest rates. Sooner or later the cycle goes full circle and a decline begins again.¹

The Facts: For the past few decades, the U.S. has enjoyed one of its longest economic expansions in history. This was only interrupted by 2 very minute recessions. Our country experienced tremendous growth; hence, a tremendous correction was rightfully due.

Imagine you are a business owner and demand for your services is through the ceiling, leaving you little or no time to do anything else (that stack that keeps piling up on your desk, look at your finances, etc). Do you think you may have forgotten to take care of a few important things, or to review your business plan, balance sheet or finances? This is an expansion:  Chaos. The more time an expansion lasts, the more buildup of unattended business, resulting in wasted expenses, a lack of current analysis of supply and demand, and eventually overproduction. Next thing you know, the money is not flowing in the same. You are over supplied, with little demand, and you have to restructure. In a nutshell, that is what our country is undergoing today.

Demand fell drastically at the end of 2008, inflation subsided, the federal funds rate was actually lowered below 0.5% and unemployment rates were on the rise. However, if we refer to the textbook definitions of the economic cycle we went over just moments ago, there are in fact signs of early recovery: The Commerce Department stated that total retail sales rose 1% in January. This is the first time in 7 months and the biggest rise since November 2007.² If this trend continues, we can expect production to rise and eventually a full-fledged recovery will occur.

The Disciplines: What do Tiger Woods, Bill Gates and Warren Buffet have in common – besides money? The answer is discipline. Whether their profession is a sport, business or investing, their success was a direct result their discipline.

You may have read the article, “Why I’m a Bull” by Ken George, published at the end of last year. In his article, Ken discusses What Would Warren Do? Sharp investors, like Mr. Buffet, know that the way to make money in the stock market is to buy low and sell high. Mr. Buffet’s name is touted today due primarily to his rational, long-term perspective in 1974, when most investors were facing the same fears you might have today. He knew it was a great time to buy into the market; hence, he bought low. It was not dumb-luck and not market timing. It was his simple discipline of buying low and selling high. Warren Buffet is not troubled by short-term fears caused by recessions and inflated by the media and politics. The billionaire investor values the reliability of the economic cycle and invests for his future beyond tomorrow.

Keeping in mind past performance does not guarantee future performance, imagine for a moment you could go back in history for the last 35 years and invest a lump sum of money into the market only twice. When would you have invested these lump sums? Do any years stick out in your mind? How about 1974, 1982, 1987, 2002? Of course they do; these are the years in which recessions were ending and the following years in the stock market were times when double-digit returns were not hard to achieve. 10 years from now, what will be your thoughts about 2008, 2009 and 2010? Will you be glad you didn’t stick with the discipline of buying low? Or will you regret it?

1. International Foundation for Retirement Education. Fundamentals of Investments. 2008
On Monday the DJIA closed at its lowest since May 7, 1997 and down 50% from its record high close on October 9, 2007.
2. MoneyNews.com. Economy. February 12, 2009.