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EVAN HOROWITZ | QUICK STUDY

Market correction: a blip, or a sign of something grim

Richard Drew/Associated Press

Traders Peter Tuchman (left) and Patrick Casey, on the floor of the New York Stock Exchange, reacted last Thursday as the Dow Jones industrial average lost more than 1,000 points for the second time in the week.

By Evan Horowitz Globe Staff 

Some stock market corrections are quickly forgotten, others are dark portents. And while no one can say for sure what’s next, after two weeks of dramatic slides and partial recoveries — including a 410-point gain on Monday for the Dow Jones industrial average — the historical record is fairly grim.

Twice last week, the Dow fell by more than 1,000 points in a single day. By Thursday, both the Dow and the S&P 500 officially crossed from mere sell-off to true correction, meaning they had lost at least 10 percent of their value in a relatively short time frame.

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Corrections like this are hardly unprecedented. Since 1980, the S&P 500 has gone through about 25 such market corrections, or nearly one per year. Trouble is, they tend to cluster in bearish bursts, which means that a correction like ours is often a sign of further losses to come.

After the first, already-deep correction of the 2007-2008 financial crisis came three more slides within a year. The bursting of the dot-com bubble involved a whole chain of corrections and mini-rallies that lasted from 1998 to 2003. And the interest-rate turmoil of the early 1980s brought five corrections of its own.

Which doesn’t necessarily mean our current slide is destined to end with an avalanche. Notice, after all, what all three of these clusters have in common: They coincided with US recessions.

If we can avoid that, the current correction may still turn out to be one of those lone-wolf affairs that make the economy shiver, and then disappear. Like 1987, when the S&P fell 23 percent in one day and more than 30 percent across two months — but which caused no further drama and was followed by two years of rising share prices.

So the big question for our current situation is whether it heralds a coming recession — or if it might actually trigger one.

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It is possible for a market downturn to push the US economy into recession. Perhaps the best recent example is the dot-com collapse, where falling share prices cost businesses trillions in available funding, slowing investment and overall economic growth.

But that is pretty unusual. On their own, market troubles tend not to ripple that far. Even during the dot-com downturn, consumers were surprisingly unfazed. Consumer confidence fell but spending never did.

There are a few reasons for that. One, stock market wealth is concentrated among high-earning households, meaning many family budgets weren’t immediately affected. Two, most people don’t spend out of their stock market investments — which they’re often holding for retirement, anyway — but instead out of their paychecks, which are largely insulated from market vicissitudes.

Deep recessions tend to be caused by factors that hit families more directly, like the collapse in housing prices during the Great Recession. In these cases, the market often plays the role of follower, not leader, trending downward as businesses struggle to find customers and restore profits.

Thus far, at least, the market downturn of 2018 doesn’t seem sharp enough to start its own recession. Not only is it fluctuating between further declines and brief improvements but any hit to businesses is being offset by the profit-boosting benefits of Republican tax cuts.

And the rest of the economy looks quite healthy, too. In fact, last week’s drop seems to have been set off by news that the economy might be growing too robustly for Wall Street’s liking, with wage growth potentially cutting into corporate profits and inflationary pressure encouraging the Federal Reserve to raise interest rates faster than stock investors might like. This kind of “bad for Wall Street, fine for Main Street” news hardly seems like evidence of a coming recession.

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In the end, there is one big problem with the optimistic — or complacent — take that the 2018 correction might be a blip, like its all-but-forgotten early 2016 peer that sent stocks down 14 percent but gave way to new highs by midyear.

Looking back over recent decades, these kinds of low-consequence corrections are pretty rare. Stocks just don’t fall this much when the future is bright and the economy stable. It never happened during the solid middle years of the last two economic expansions, from 1992-1996 and again from 2003-2006.

At the very least, last week seems like a sign that the steady period of this recovery is over, and that we may be entering a late phase — where recession isn’t a far-off possibility but an ever-present danger, made palpable by the newly nervous stock market.


Evan Horowitz digs through data to find information that illuminates the policy issues facing Massachusetts and the United States He can be reached at evan.horowitz@globe.com
Follow him on Twitter @GlobeHorowitz.