World’s Major Economies Fall Behind U.S.

Economies in the U.K. and Japan shrank at the end of last year, underlining the widening gulf between robust growth in the U.S. and more anemic conditions in the rest of the world.

The decline in activity in Japan came as a surprise to economists and meant that it has slipped in the global rankings of the world’s largest economies behind Germany and into fourth place.

In the U.K., the economy shrank for the second consecutive quarter, the shorthand definition of a recession. The U.K.’s statistics agency Thursday said gross domestic product fell at an annualized rate of 1.4% in the final three months of 2023, compared with a 3.3% increase in the U.S. over the same period.

U.K. consumer spending, the main driver of the U.K. economy, fell over the second half of 2023 even as wage growth outpaced inflation for the first time in two years, boosting consumers’ purchasing power. Japanese consumers, who are still seeing prices rise faster than wages, also cut their spending in the final quarter.

The growth numbers from the U.K. and Japan mirror similarly weak conditions in much of continental Europe and China .

The divergence between the U.S. and the rest of the rich world is in large part a story of surprising U.S. strength . The U.S. grew much faster than economists had expected it would at the start of 2023, while Europe was badly hit by high energy prices from the Ukraine war and rising interest rates. Economists forecast the growth gap will narrow somewhat over the course of the year, but remain wide.

U.S. consumer spending has been more resilient in the face of rising interest rates than in other parts of the world. Government spending in the U.S. has also remained at historically high levels for periods outside of recessions, giving the economy an added boost.

The Organization for Economic Cooperation and Development earlier this month said it expects the U.S. economy to grow by 2.1% this year, while it sees the U.K.’s economy growing by 0.7% and Germany’s economy by 0.3%.

To be sure, the declines in activity in Europe and Japan have been relatively modest and are a reflection of slow-growing economies that by nature fall into contraction more often than those that have a higher sustained level of growth.

And while economic output declined in a number of rich countries as 2023 drew to a close, job markets in Europe and Japan remained tight, as they were in the U.S. As a result, many economists hesitate to describe the U.K. and Japanese downturns as full-blown recessions.

Policymakers expect economies to pick up as inflation ebbs in the months ahead.

“We’re seeing some signs of a pickup,” Bank of England Gov. Andrew Bailey told lawmakers Wednesday.

Japan’s unemployment rate fell to an 11-month low in December, and the Bank of Japan ’s Tankan survey “showed that business conditions across all industries and firm sizes were the strongest they’ve been since 2018.”

Many economists expect the Bank of Japan to end its policy of negative short-term interest rates in either March or April, although the bank hasn’t confirmed that.

“We doubt that today’s GDP figures will prevent the Bank [of Japan] from ending negative interest rates in April,” said Marcel Thieliant , head of Asia-Pacific at Capital Economics.

The decline in its GDP during the second half of the year, and the yen’s weakness relative to the euro, meant that Japan dropped from third place in the global rankings of economic heft when measured in U.S. dollars.

Germany takes over the third-place spot behind the U.S. and China, despite Europe’s largest economy contracting during 2023. Japan lost its second-place spot to China in 2010 .

The past five years have been good to stock-market investors. The S&P 500 index has climbed an annualised 12% during that period, outstripping the 9% annualised gain over the past 40 years. This year alone the index is up 6.9% as of April 26, tacking on to the 24% gain in 2023.

But signs are emerging that the stock market could be due for a breather. As of April 25, the S&P 500 went 133 trading days without a decline of at least 10%, according to PNC Institutional Asset Management. To be sure, that’s still short of the 172-day average since 1928. But the S&P 500 has jumped 24% in the past six months (about 180 days), which buttresses arguments for a correction.

What’s more, the multiyear ascent has arguably sent stocks to overvalued levels. The S&P 500’s forward price-to-earnings ratio—a gauge of market valuation based on earnings estimates for the next 12 months—registered 20 as of April 26, exceeding the five-year average of 19.1 and the 10-year average of 17.8, according to FactSet.

“A correction is certainly possible,” says Jack Ablin , chief investment officer at wealth-management firm Cresset Capital, pointing to the high valuations and the prospect that rate cuts will come later than expected thanks to inflation that has been higher than expected.

Given the danger of a stock-market correction, commonly defined as a 10% to 20% drop, how can investors guard the profits they have made in recent years?

Wait and see

Assuming you have a well-diversified portfolio and aren’t counting on the money from your stocks to finance an imminent expense, financial advisers say the best strategy is to hang tight.

Corrections generally don’t stick around long. Since 1985, declines between 10% and 20% for the S&P 500 have lasted only 97 days on average—three-plus months—according to a CFRA analysis of S&P data.

It then has taken the market an additional 101 days on average to recover the ground lost during the correction. So in about six months, investors tend to be back where they were before the correction.

“If there’s a shallow correction of 5% to 10%, we recommend riding it out,” says Karim Ahamed , an investment adviser at wealth-management firm Cerity Partners. “Eventually the market recovers. The idea of selling out and climbing back in is difficult to achieve. You’re more likely to stay on the sidelines with your losses crystallising.”

The S&P 500 did fall more than 5% in recent weeks, from March 28 to April 19.

Sell losers

Some people, though, simply find it impossible to do nothing if they fear a correction is looming. At the least, they want to protect the gains they have earned so far. What’s the most prudent way for them to reduce their market exposure?

Keep in mind that most actions you can take to guard your stock profits carry a cost. The easiest method, selling stocks, subjects you to capital-gains taxes unless you are selling from a tax-advantaged retirement account. That tax rate varies according to your income, but will likely be 15%.

One way to limit the burden is through tax-loss harvesting, says Amanda Agati , chief investment officer of PNC’s asset-management group. That is when you sell stocks at a loss, lowering your net capital gain. If you have any dogs in your portfolio—stocks with poor fundamentals—you can unload those.

If you do sell stocks, you could put the proceeds into a money-market fund for now, financial pros say. Many such funds yield 5% or more, far higher than rates over the past 15 years. Or if you want to increase the safety of your overall portfolio, you could put the money into safe government bonds. Three-year Treasury notes yield around 4.75%.

Play defence

If you are going to unload stocks, but don’t want to sell right away, you can put in a stop-limit sell order through your brokerage. That order can automatically sell your shares if they slide to a level you designate (they can go below it, too), protecting you from big drops.

Say you bought 100 shares of Tesla at $140, and they are now trading at $165. If you don’t want your profit to disappear in a downturn, you could enter a stop-limit sell order with your brokerage at $150 for some or all of your shares. Those shares can be sold if the price reaches $150, securing some of the gains.

You also might shift your holdings more toward defensive stocks, such as utilities and consumer-staple companies, which generally outperform during market downturns, says Michael Sheldon , executive director of wealth-management firm RDM Financial Group.

PNC’s Agati suggests an emphasis on quality stocks, those with high recurring revenues, strong and dependable profit margins, high cash flow and low debt. These stocks—such as AutoZone and Visa , she says—have lagged behind the leaders of the market’s surge over the past year.

Consider options

Advisers also suggest looking at “put” options to protect your stock gains. Puts give you the right but not the obligation to sell a security at a preset price by a preset deadline.

Note that we’re talking about a risk-reduction approach here, not the kind of risk-taking—to try to amplify returns— that has been rampant in the options market . The simplest strategy could be to purchase a put option on a market-index exchange-traded fund, such as one based on the S&P 500. You could buy puts on individual stocks rather than an index ETF, but that may get expensive and complicated as each option carries a purchase premium.

Here’s how the ETF strategy would work: First, buy an option that would let you sell the ETF at a price below the current one, protecting you from declines beneath that level. You wouldn’t have to sell the ETF, and you wouldn’t even have to own it. As the S&P 500 falls, the put option gains in value, and you can sell it.

Say on April 16 you wanted to protect 100 shares of SPDR S&P 500 ETF Trust (SPY) from a decline of more than 10%. With the ETF trading at $505 a share, you could buy an option that covers 100 shares for $1,050, or $10.50 a share. You’re paying a premium equal to 2% of your position.

The option’s expiration date is December, and its strike price is $455 a share, or 10% below the current value. The strike price is the price at which you could exercise the option. But generally you sell the option rather than exercising it, so you don’t have to dump any shares, especially if you don’t own them.

If the market doesn’t go down 10% by December, you let the option expire worthless, and you’re out the $1,050 you paid for it. If the market drops more than 10%, you can sell your option at a profit whenever you want until December.

While it might be more lucrative to sell it early, Ablin recommends holding until expiration if you’re using the option to protect your portfolio. “Think of it like homeowner insurance,” he says. “You pay a premium, like a deductible for insurance, and your coverage runs for a term.”

Keeping the option until expiration extends your coverage for the longest possible period.

By using options, you don’t have to sell any of your stocks, which are typically the best asset to generate strong long-term returns. “If you have the wherewithal to hold the S&P 500 for 10 years, your odds of making money are over 90%,” Ablin says.

World’s Major Economies Fall Behind U.S.

The best course when stocks slide is for investors to stand pat, but ‘put’ options are one way to hedge against a drop and lock in some profits

Wait and see

Sell losers

Play defence

Consider options