Cash Is King in a Recession: Understanding Its Vital Role
Updated Aug 2023
So why is cash king in a recession? We could sum it up in two words: Hot Money. However, for some strange reason, when it comes to the markets, individuals love long explanations even though, in most cases, the long descriptions reveal much less than the short ones. Let’s look at a few things we ignore, but we know many investors do;
S&P 500 companies are going to report what will turn out to be the 6th consecutive quarter of lower stock market earnings. Right off the bat, logic tells you we were right when we said hot money. What else would keep this market trending higher? This is one of the longest-earning slumps in over a decade.
The following logical assumption would be, “Well then, there is no way stocks can keep rising”, or how long can they rise in a low stock market earnings environment? To get the correct answer, you need to ask the right question. Both issues are silly, and responding to either will not provide further insights. One person will state it cannot rise because of the abovementioned negative factors. The other penguin will say it can increase because inflation is low, unemployment is low, gas prices are low and a host of other rubbish.
Cash Is King in a Recession: The Persistence of Skepticism Amidst Market Ascendancy
While it’s a widely acknowledged truth that “cash is king during a recession,” what often goes unexamined is when central banks will cease their monetary infusions into the markets. The answer might as well be “when hell freezes over.” This market is poised for a much longer ascent than most pessimists can endure.
An even more pertinent question arises: “Which side of the market do the masses favour?”
Herein lies the crux; the masses lean decidedly toward negativity. As long as they remain sceptical of this market, it will persist without a crash in sight.
But let’s delve further, even though these reasons don’t hold our primary concern, into why earnings might decline.
Energy and other commodity-based companies have witnessed a drastic profit plummet, making them the poorest performers for over 18 months.
A couple of additional factors come into play. Firstly, U.S. firms, on the whole, have reported reduced earnings due to the severe blows sustained by energy, commodity, and basic materials companies from dwindling prices. The energy sector, in particular, is poised to bear substantial losses once again.
The second factor is the robust dollar. It’s been on an upward trajectory, adversely affecting the profits of multinational corporations. This stems from the ongoing currency warfare; a strong dollar doesn’t bode well for multinationals, and vice versa. Furthermore, it impacts our exports, rendering our products more expensive in foreign markets.
Conclusion
In conclusion, cash indeed holds significant importance during a recession. It serves as a financial lifeline when times are tough, providing stability and liquidity. This is especially crucial in a market characterized by declining earnings and uncertainty.
Furthermore, the prevailing sentiment among the masses, which leans towards pessimism, can counterbalance, preventing a market crash as long as scepticism persists.
However, it’s essential to acknowledge that various factors, such as the downturn in earnings, particularly in energy and commodity-based sectors, and the strength of the U.S. dollar, affect the financial landscape.
In this ever-evolving financial environment, the role of cash during a recession remains vital, but it’s not the sole determinant of market outcomes. The interplay of multiple factors and “Hot Money” dynamics continue to shape the financial landscape, making it a complex and dynamic arena to navigate.
The only two things you need to consider are an extremely accommodative Fed and the masses refusing to embrace this market. Both developments are highly bullish for this market.
Data readily available to everyone is like news; the moment you hear it, it is no longer news but Gossip.
Originally published on October 7, 2016, this content has undergone several updates over the years, with the most recent update conducted in August 2023.
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