Beware the Business Cycle

About 30 years ago, I came to the USA and had great difficulty finding a job as Civil Engineer. Most of my applications resulted in polite regret letters citing one reason or the other for the refusal. When I spoke to a friend (who had come here many years earlier), he told me that the reasons given in the letters were all nonsense. The real reason was that the companies had no jobs. I had committed the cardinal sin of arriving here during a business down cycle or economic contraction.  

At the time, I did not understand the full implications of what he said. Now however, after many years in the USA, I have lived through several ups and downs of the Economy and have a healthy respect for the Business Cycle. Further, I often hear about some acquaintances who have suffered heavy losses in their business start ups. These are hard working and intelligent people, but they started their business near the peak of a business cycle; consequently they paid almost the maximum price for purchasing their business, just before it was ready to go into a slump. Buying a business near an Economic cycle peak is a very risky move.

Different stages of the business cycle exhibit different characteristics-

Near the peak of a business cycle, you may observe the following:

Your commute takes longer (if you drive).

You have to park further and further from the train, (if you commute by rail).

You often have to stand in the train, bus or subway.

At the mall, parking may take several minutes to find.

Prices of groceries and gasoline go up almost on a weekly basis.

All your neighbors have purchased new, often bigger and luxury autos.

Your friends are putting up additions to their houses or remodeling their kitchens.

Handymen need 30 days notice for the smallest repair job.

People are very confident about the future.

Near the bottom (or trough) of a business cycle:

You often reach work early, because the commute is easier (if you still have a job).

You get comfortable seats in the train and good parking.

At the Mall, you park in under two minutes and the checkout is very quick.

The newspaper has many coupons for things you can actually use.

Repairmen are happy to come and give you a free Estimate for work.

People are gloomy about the future.       

So much for subjective observations. For more objective readings, an excellent source is the website of the National Bureau of Economic Research (NBER) at www.nber.org/cycles/. According to their studies, the last ten business cycles had an average duration of 67 months, with 57 months up and 10 months down. So roughly, we can say that we have 5 years of expansion followed by 1 year of contraction. Incidentally, the Economy last peaked in December 2007 and this was formally recognized in December 2008.

While the NBER readings are an excellent and authoritative source of information, their determinations are made several months after the peak or trough is over. If you are interested in anticipating a recession or recovery before it begins, the Stock market is an early predictor of a turn in the economy. For this, you can look at a chart of the stock market as represented by the S&P 500 index and superimpose the 150 day and 200 day averages. The averages are useful in smoothing out the day to day gyrations of the market and show the general direction, or trend of the market, as smooth lines. These lines serve as advance indicators. In an expanding economy, these lines have an upward slope. As the economy begins to weaken, these trend lines flatten out and gradually turn down. This is a fairly reliable sign that economic growth will soon turn negative. Several months later (say 9 to 18), these lines again turn up, signaling that the economy will soon be improving.

These trend lines can also be used as stock market entry and exit signals. In the 2000-2001, as well as the 2008 market meltdown, these signals could have saved the stock market investor from considerable losses, roughly 30-35% in each instance. So it pays to be aware of the Business Cycle.

Let me quote from the 1969 hit song “Spinning Wheel” by the pop group “Blood Sweat and Tears.”

“What goes up

must come down

spinning wheel

got to go around

talkin’ ’bout your troubles

it’s a cryin’ sin

Ride a painted pony

let the spinning wheel spin”

(Blood, Sweat & Tears, 1969)

In general, anybody who buys an economy-sensitive business or makes a large investment in the late stages of a business cycle, risks undergoing an experience involving “Blood, Sweat and Tears”, when the Economy does its next swan dive.

Using the Highs and Lows of Business Cycles to Create a Thriving Business

Every business, no matter the product they sell or service they provide can fall victim to the highs and lows of the business cycle. How you handle these highs and lows can mean the difference when working to create a thriving business. It is true each business is subject to different cycles, but every business can react to these cycles in the same manner as it works towards creating a thriving business.

When we talk about business cycles many immediately think of the roller coaster ride associated with economical recessions and booms. However, business cycles can also be as subtle as seasonal or weather cycles or cycles caused by vacations or shutdowns.

Having systems in place to help you cope with both the highs and lows of industry cycles will help to ensure that your business will continue to thrive. If you are not prepared for a boom it can cause just as much damage for your business as a recession. Here are some of the examples of ways to combat business cycles:

Offer a Complimentary Service

For those affected by weather seasons, offering a complimentary service can provide your business with the business needed to weather the seasonal cycle. For example, a Northern Canadian lawn care business would not have a vast demand for their services in the winter, but if they were to offer snow plowing in the winter to offset this slowdown they could find a consistent and steady income. Another example, if you do outdoor construction projects and you can’t work in the summer because it is too hot, why not target an indoor construction project until temperatures cool enough to return outdoors.

Target Opposite Markets

Look to the cycles of your target market and find someone at the opposite end of a cycle to assist during slow times. For example if you are a bookkeeper whose clients are mostly construction workers and the construction season is slow during tax season, why not offer your services to an accountant, who could probably use your help. Another example is if you target women to buy your product and right now they are not purchasing your product, figure out what changes are necessary to encourage men to buy your product.

Outsource or Subcontract During Busy Times

When many business owners hit a peak period or busy time they begin to feel the pressures and stress of meeting all the associated deadlines. It does not always make good business sense to hire employees to help you during busy times, although in some industries (e.g. farming and construction), seasonal employees have become the norm. An excellent alternative is to outsource or utilize a subcontractor during busy times. The advantage of outsourcing is there are no obligations other than those associated with any contract you might sign. By utilizing subcontractors you can still have quality assistance with the knowledge there are no long term commitments required.

Offer a Reduced Rate or Discounted Rate

During slow times offering a discount may give you the competitive edge you need. I have heard of many companies offering different rates depending on their workload or the interest in their product or services. Just consider the retail industry; many times they have sales in January and February because this is their slow season and they are looking to generate interest in their products.

Increase Your Price to Deter Business

Just as many will offer a reduced rate during slow times, the same holds true during busy times. Don’t be afraid to increase your price when you are busy. After all, much of our pricing is based on the laws of supply and demand. Many will still be willing to pay your price even if it is inflated because they require your services immediately and for those that aren’t willing to pay the price now, it might hold them off until your business slows down a bit.

Offer Your Services to Someone as a Subcontractor

During slower times, why not consider offering your services as a subcontractor. Although subcontracting doesn’t necessarily pay as much, it is better than having no income.

Develop a Marketing Strategy to Create Interest

Perhaps the most obvious strategy for dealing with cycles is to look at your current marketing strategies and make adjustments. Perhaps you could introduce a contest or start a promotion that is exciting and gives people a renewed desire to check you out. In the same regard taking a close look at how you are spending your marketing dollars and trying something different might be the key to helping you get through an industry low.

Plan for and Learn to Live with the Cycles

As they say, if you can’t beat them join them. Perhaps the easiest way to handle industry highs and lows is to just accept they will happen and develop a way to live through them. Perhaps during the lows you see this as an opportunity to take a much needed vacation and a high as an opportunity to really get out there and show them just what you can do.

However, you deal with the highs and lows of your business, only someone that can learn to fasten their seatbelt and enjoy the roller coaster ride will truly have created a thriving business for themselves.

The Fed Will Allow Business Cycle To Play Out Longer This Time!

The Federal Reserve played its part well, along with the Treasury Department, the White House, and Congress, in helping prevent the financial meltdown of 2008-2009 from turning the ‘Great Recession’ of 2007-2009 into the next Great Depression.

But its solo intervention with its QE2 quantitative easing program last year to boost the again faltering economy seems to have only delayed the business cycle.

Just over a year ago, unemployment was above 9%, home sales were declining, consumer and business confidence were deteriorating again, and the stock market had rolled over into a correction and seemed to be predicting the economy was sliding into another recession. And sure enough, in July of last year it was reported that the economy had unexpectedly slowed to growth of just 1.7% in the 2nd quarter of the year.

The Fed rushed in with its QE2 program of buying massive amounts of U.S. Treasury bonds on a monthly basis to give the economy a boost, admitting it was an experiment that had never been tried before.

The stock market surged up in response, the S&P 500 gaining a huge 34% from its low in July of last year to its peak in April of this year. Yet so-called ‘smart money’, including corporate insiders and institutional investors, seemed not to believe the QE2 program would work. The rally was on strangely low volume, few participants, and with corporate insiders selling into the strength all the way up.

The score card is now in on the Fed’s QE2 experiment.

Here we are a year later, and the economy is in worse shape than last summer. Unemployment remains above 9%. Home sales are on track to be worse than last year. Consumer and business confidence is at new multiyear lows. Government debt and deficits are a $trillion or so higher. And whereas last year economic growth was 3.7% in the first quarter and 1.7% in the second quarter, this year GDP growth was only 0.4% in the first quarter and 1.0% in the second quarter. This year the stock market again topped out in April and has given back most of the gains it experienced under the influence of QE2, potentially in anticipation that the economy is again sliding into recession.

This time, even though the economic slowdown in the first half was much worse than when it intervened last year, and monthly economic reports so far for July and August show the slowdown worsening so far in the 2nd half, the Fed has decided to let the business cycle run its course, at least for a while longer.

In his much anticipated policy speech on Friday, Fed Chairman Bernanke said the Fed will do nothing for now, but will take another look at conditions at its FOMC meeting on September 22. He also cautioned that the Fed’s powers are somewhat limited, apparently learning from last year’s mistake with QE2.

The business cycle is a dangerous thing to monkey with. It’s been in place since the founding of the country, and before that in other free-market systems.

Over the last 110 years there have been 25 bear markets, or one on average of every four years or so. The two times when they did not take place approximately on that schedule were in the 1920’s and 1990’s, when both times the economy and stock market continued for ten years without corrections of the excesses. The results were devastating, the 1929 crash and Great Depression, and the severe 2000-2002 bear market (which was then followed by the so-called ‘lost decade’ for the market, which remains well below its 2000 peak even 11 years later).

With the last bear market having begun in 2007, just about four years ago, the market may be trying to get back to its historical schedule of a smaller bear market on average of every four years instead of government induced longer bull markets and then more severe periods that follow.

Meanwhile, the Fed’s decision to let the business cycle play out at least for awhile longer this time does fit in with my prediction at my May 8 sell signal, that given the failure of QE2, the Fed will be less willing to step in this time, that the market is likely to experience a more significant correction in its unfavorable seasonal period this year, with the Fed not stepping in until the fall, to provide a boost just in time for the market’s next favorable seasonal period of November to May.

But the market does not move in a straight line in either direction, and after its severe plunge of the previous four weeks and the resulting short-term oversold condition, a short-term oversold rally has been underway this week in spite of the worsening economic reports.