Learn more on the go!
As an investor, it is imperative that you know the state of the economy. With that, comes an understanding for how economic cycles work and identifying which ones that we find ourselves in. In this article I want to help you navigate where we are in the current economic cycle.
For starters, cycles are valuable informational frameworks because they help provide a reference point for what’s happening and what’s about to happen. The economic cycle influences most of the mechanics that affect investments, like inflation and interest rates. Once we understand the economic cycle we can then learn and determine where we are in the cycle so that we can optimize our strategy for investment.
An investor needs to know where the market is headed based on a variety of factors that impact it. Between the short-term debt cycle, which is roughly 5-10 years, and the long term debt-cycle, roughly 75-100 years, there is a long-wave economic cycle.
Russian economist, Nikolei Kondratiev came up with this concept. He explains it in four phases, each of which I will help explain to you.
What is the Kondratieff Cycle?
The Kondratieff cycle is a long-wave economic cycle that typically lasts for 50 to 60 years. It is divided into four phases/seasons: Spring, Summer, Autumn, Winter. Each season has a different set of characteristics and preconditions for entering into a new season.
Spring - The Start of Inflation & Our Current State
Spring begins with an indication that a stock market bottom has occurred. Confidence is fragile but an increase in business activity and employment is typically seen during this period. On the flip side, inflation also tends to rise while the Federal Reserve keeps interest rates low.
This is what we are seeing right now. Consumer prices are at a 13-year high and have begun to increase rapidly over the past several months. The Federal Reserve announced it would maintain its target for the federal funds rate (the benchmark for most interest rates) at a range of 0% to 0.25% for the remainder of the 2021 4th quarter.
As we transition out of Spring, we begin to face the Summer season. Typically we will see a bull market peak arise in the equity markets.
Summer - Runaway Inflation
Summer begins from an indication that the stock market has peaked. Debt expands as we see a rise in business credit and inflation begins to gain momentum. The Federal Reserve will tend to increase interest rates in hopes of cooling down the rate of inflation.
A previous example of Summer has been the time period of the Vietnam war. We saw inflation and commodity prices rapidly increase. Interest rates rose to nearly 20%!
By the end of Summer, we see interest rates begin to peak and a bear market bottom.
Autumn - Disinflation
With the stock market bottoming, and interest rates and inflation peaking, Autumn typically will start with a recession. It is okay though, as consumer confidence returns to a high level. In Autumn, we see both interest rates and inflation decline as credit is once again increasing within the banks. This signals positive economic activity.
We saw an example of Autumn during the dotcom bubble of the 1990s. As more credit is injected into the markets, consumer confidence begins to rise but with that so does debt. Stocks, bonds, and real estate are all seeing a positive uptick in activity.
An asset bubble is not an uncommon thing to see in Autumn. Gold and other commodities will reach their low and stocks will see a peak in prices, signaling that Winter is coming.
Winter - Deflation
The start of Winter comes with a peak in the stock market. Fear, panic and ongoing concern takes over the market as the asset bubble begins to burst. Consumer confidence plummets and interest rates as well as inflation begin to plummet. Consumers turn to cash, gold and bonds as asset classes take a turn for the worse.
We see an example of this in the 2008 crash. Banks went belly up, the stock market saw some of the largest drops in history and interest rates were at all-time lows.
Our Current State:
We are in the midst of a new technological revolution, one that resembles that of the Internet Age. Cryptocurrency is fundamentally changing the way we transact and conduct business with each other. A whole new asset class is being born and we are at the very beginning of it. Innovation is happening at a rapid pace. Institutions are investing in their digital infrastructure to be able to hold the vast amounts of data being produced.
AI, IoT, robotics and cryptocurrency are converging to progress us into a more efficient world. Cars are almost to the point of driving themselves. People can conduct business without the need of a middleman (or bank) and own their data the whole time. We are seeing one of the most pivotal transformations happen in our time.
Spring is here.