Economist expectations for a recession in 2023 never materialized, but that doesn’t mean the economy is out of the woods. While the prospects of avoiding a recession and managing a so-called “soft landing” are improving, some economists believe we may be headed toward a unique middle ground they’re calling a “rolling recession.”
In this article, we’ll look at what a “rolling recession” is, how it might impact the market, and how actively managed funds can help you navigate it.
What Is a Rolling Recession?
Most investors are familiar with recessions, which generally occur when there are two consecutive quarters of negative GDP growth. And similarly, you’re probably familiar with the concept of a “soft landing,” where the Federal Reserve manages to avoid a recession by carefully managing interest rates and other monetary policy tools.
But rather than avoiding a contraction or experiencing a comprehensive downturn, some economists see a “rolling recession” as a more staggered response to the shifting dynamics impacting the economy. In other words, subsets of the economy could see wider differences in their economic performance than they normally do.
For example, consider these recent events:
- The housing market experienced a shock in early 2022 when the Federal Reserve began hiking interest rates. The iShares Residential and Multisector Real Estate ETF (REZ) fell from nearly $100 to $65 per share in just a few months.
- The manufacturing industry experienced a setback in late 2022 as businesses struggled to digest excess inventories all along the supply chain.
- The tech industry experienced a massive decline in 2022 as funding for high-growth businesses dried up thanks to a higher cost of capital.
- Regional banks experienced a shock in 2023 when regulators seized troubled banks as their low interest investments led to significant losses.
- Commercial real estate markets are struggling to adapt to work-from-home schedules and rolling over debt to higher interest rates.
These issues are not necessarily large enough to affect the broader economy, but they could be enough to impact investors in subsectors of the economy.
Why Active Management?
Most passive funds invest in a broad market index and weight holdings by market capitalization. As a result, the fund managers have little discretion even if they know there’s an avoidable problem on the horizon.
Bond funds have been an excellent example. According to Morningstar, 68% of actively managed bond ETFs beat their index during the first six months of 2023. Rising interest rates made it easier to target higher yields in debt markets without taking on as much risk. At the same time, they have the flexibility to navigate changes in creditworthiness.
Active managers could use these same advantages to navigate a rolling recession.
For example, consider a broad market real estate fund. Active managers cognizant of increasing office vacancies or debt rollover timelines could avoid companies on the verge of larger problems – even if they have large market caps. They could also shift into subsets of the market experiencing a rise in demand, like data warehouses.
Similarly, passive large-cap value funds might look at factors like price-earnings ratios, but active managers could consider factors like a company’s exposure to interest rates or changing consumer behaviors. And ultimately, those could lead to higher alpha.
Popular Active Equity Funds
These ETFs are sorted by their YTD total return, which ranges from -0.6% to 12.4%. They have expenses between 0.12% and 0.59% and AUM between $375M and $6.7B. They are yielding between 0% and 2%.
| Name | Ticker | Type | Active? | AUM | YTD Total Return (%) | Yield | Expense |
|---|---|---|---|---|---|---|---|
| Fidelity Blue Chip Growth ETF | FBCG | ETF | Yes | $764M | 12.4% | 0.1% | 0.59% |
| T. Rowe Price Blue Chip Growth ETF | TCHP | ETF | Yes | $375M | 11.2% | 0% | 0.57% |
| Capital Group Growth ETF | CGGR | ETF | Yes | $2.72B | 9.6% | 0.40% | 0.39% |
| Dimensional US Core Equity Market ETF | DFAU | ETF | Yes | $3.89B | 6.7% | 1.5% | 0.12% |
| Avantis U.S. Small Cap Value ETF | AVUV | ETF | Yes | $6.76B | -0.6% | 2% | 0.25% |
Popular Active Bond Funds
These ETFs are sorted by their YTD total return, which ranges from -1.3% to -0.3%. They have expenses between 0.40% and 0.65% and AUM between $101M and $5.1B. They are yielding between 4.2% and 5.4%.
| Name | Ticker | Type | Active? | AUM | YTD Total Return (%) | Yield | Expense |
|---|---|---|---|---|---|---|---|
| PGIM Total Return Bond ETF | PTRB | ETF | Yes | $101M | -0.3% | 5.4% | 0.49% |
| Fidelity Total Bond ETF | FBND | ETF | Yes | $5.13B | -0.4% | 4.5% | 0.36% |
| PIMCO Active Bond Exchange-Traded Fund | BOND | ETF | Yes | $3.56B | -0.4% | 4.7% | 0.58% |
| JPMorgan Core Plus Bond ETF | JCPB | ETF | Yes | $1.44B | -0.4% | 4.9% | 0.40% |
| First Trust TCW Opportunistic Fixed Income ETF | FIXD | ETF | Yes | $4.41B | -1.3% | 4.2% | 0.65% |
The Bottom Line
The economy is faring much better than many economists expected a year ago, but that doesn’t mean a downturn isn’t coming around the corner. And even if there’s no steep downturn, many economists believe there could be a “rolling recession” that sweeps across subsets of the economy without triggering a broader decline.
In many ways, actively managed funds are well-positioned to navigate these turbulent waters. Rather than investing in the largest companies, they can focus on identifying the economic factors influencing individual companies, such as higher interest rates.