Introduction to Recessions
Economists often use imperfect historical information to form opinions about the economy’s direction. We often don’t know we’re in a recession until it’s well underway—typically, the National Bureau of Economic Research adjusts a recession’s start date after the fact. However, that doesn’t mean recessions have to catch advisors and clients by surprise. By monitoring potential recession indicators, advisors can understand the direction of the economy and chart an appropriate course for their clients.
What Are the Top Indicators of a Recession?
Here are a few signs of a recession that economists track to understand economic activity.
- Stock market declines: Economists look at the difference between stock market performance and its peak to evaluate potential recession conditions. A downturn, or bear market, is defined as a stock market decline from its peak by 20% or more.
- Interest rates can indicate a recession in multiple ways. If interest rates rise too quickly or remain high for too long, it can slow economic growth and potentially lead to a recession. On the other hand, if the Federal Reserve begins cutting rates, it can be seen as an attempt to stimulate the economy in response to recessionary pressures.
- The inverted yield curve refers to when short-term bond yields climb above longer-term ones. This indicates an expectation of lower interest rates, and thus lower growth and inflation, down the road. Inverted yield curves have also historically occurred ahead of a recession.
- Credit spreads show the yield difference between two fixed-income investments with the same maturity but different credit qualities. In the past, negative credit spreads (that is, lower yields on lower-risk securities) have preceded recessions, but they can’t pinpoint the exact start date, severity, or duration.
- Decrease in real GDP: Consumers tend to tighten their belts in response to economic uncertainty. That could lead to lower economic output, layoffs, and economic contraction.
- High inflation can reduce consumer spending power. As previously noted under interest rates, the Federal Reserve may raise rates to combat inflation. However, if the rates are raised too aggressively, it could signal a recession, as consumers look to rein in spending amid higher prices.
- New housing starts and home prices: Ahead of a recession, new housing starts and home prices tend to decline as demand weakens. But a recession isn’t the sole cause.
Where Do Recession Indicators Point Today?
Stock Market Declines: US Market Pulls Back Amid Economic Uncertainty
US stocks rebounded in the second quarter after President Donald Trump paused plans to place tariffs on other nations, never hitting the 20% decline that marks a bear market. Growth stocks performed particularly well in the second quarter, specifically the Magnificent Seven stocks. This quarter marked 18 months since the US stock market’s last downturn and recovery.
Interest Rates: Lower Interest Rates Likely Needed to Combat Recession Risk
Our projections for the federal-funds rate are roughly in line with market expectations over the next two years. The Federal Reserve will likely need to cut rates to avoid a recession, which we think it is likely to do. That said, the pace of cutting will need to be measured given many uncertainties, particularly around entrenched inflation. We expect the 10-year Treasury yield to drop to 3.25% by 2028, based on our neutral rate of interest outlook.
Yield Curve: The Yield Curve Steepened as Long-Term Rates Stay High
Though the yield curve is not currently inverted, it has steepened over the trailing three- and 12-month periods through June 30, 2025. Investors are demanding higher compensation for the risk of holding long-term debt (a higher term premium). The current yield curve may present income opportunities for investors, so advisors should work with clients to make informed decisions about any fixed-income investments.
Credit Spreads: Credit Spreads Remain Tight
Corporate credit spreads can indicate the broader economy’s health and investor confidence in credit markets. Despite tightening, credit spreads have remained positive and therefore are not indicative of a recession. Corporate credit spreads remained at historically tight levels in the first half of 2025, suggesting rich valuations. Tariff-induced volatility briefly widened spreads, but spreads tightened again as trade tensions eased and market conditions stabilized.
GDP: Tariffs Deal a Hit to Our Real GDP Forecast
Compared with our forecasts before tariff rates increased, we’ve cut our real gross domestic product growth forecasts by a combined 0.7 percentage points over 2025-26, with the impact hitting a cumulative 1 percentage point by 2029. As the plans for tariffs continue to evolve, advisors should be prepared to speak about that volatility with clients.
Inflation: Inflation Progress Was Already Stalling Before Tariffs
Progress in bringing inflation down has stalled a bit for major economies. For the US, housing inflation has been falling over the past year, while other categories have seen renewed acceleration. We previously expected a gradual economic slowdown to help bring US inflation back down to 2% by the end of 2025. However, tariff hikes will likely delay a return to 2% inflation for several years. We anticipate inflation remaining high, which can be indicative of a potential recession.
Housing Starts: US Home Price Appreciation Still Running Strong
After a dip in 2022, housing price growth has been strong since mid-2023, and it stood at 4% year over year as of 2025’s first quarter. This level of activity is typically not seen ahead of a recession. Geographically, the gains are fairly broad-based. Price growth has been weaker in Texas markets, where supply is beginning to overtake demand thanks to vigorous building.
What Should Advisors Do in a Recession?
Amid market uncertainty, diversified portfolios can help clients reach their long-term goals and withstand downturns. Our behavioral finance researchers created a checklist for guiding clients through a recession:
- Be the go-to source for advice: Create content to answer common client questions in simple terms, and share with them through meetings, emails, and social media.
- Gauge client expectations: Remind optimistic clients that market downturns are inevitable and to temper their expectations, and remind pessimistic clients about the value of staying the course.
- Create concrete action plans: Ask clients to identify triggers that might cause them to tinker with portfolios. Ask them to create an “If, then” list to identify what to do if those triggers happen, then sign it to commit to the plan.
Conclusion
Recessions can be unpredictable and may catch investors off guard. However, by monitoring recession indicators and understanding the current state of the economy, advisors can help clients navigate uncertain markets and make informed decisions about their portfolios. By being proactive and prepared, advisors can help their clients achieve their long-term goals and weather any potential economic storms.
