With recent indicators suggesting that the U.S. is in the middle of a downturn, interest regarding stocks to avoid in a recession has naturally picked up. Though contrarianism is an exciting concept, in many cases, it’s better not to fight the tape. Here, large-scale fundamentals along with common sense are your best friends.
During the second quarter, the U.S. economy shrank by 0.9%, representing the second consecutive quarter where the economy has contracted. During Q1, the gross domestic product decreased at an annualized rate of 1.6%. Interestingly, while many analysts regard two quarters of back-to-back red ink as a recessionary slump, it’s not an official definition. Nevertheless, investors need to pay attention to the worst stocks to buy in a recession.
While the non-profit, non-partisan National Bureau of Economic Research will make the official determination of a recession, investors shouldn’t wait for such confirmation. Instead, it’s best to think about protecting your portfolio right now. To help strategize your next moves, take some pieces off the board by being cognizant of the worst stocks to buy in a recession.
|Z, ZG||Zillow||$37.06, $37.37|
|RUTH||Ruth’s Hospitality Group||$18.08|
Stocks to Avoid in a Recession: Toll Brothers (TOL)
One of the easiest names to identify as a stock to avoid in a recession is homebuilding specialist Toll Brothers (NYSE:TOL). While people with means saw real estate as an intuitive opportunity last year during a monetary ecosystem of low interest rates, this year, the Federal Reserve’s commitment to attacking inflation with raised borrowing costs bodes poorly for TOL and similar investments.
The cancellation rate among homebuilders reach 14.5% in June, implying a growing number of people concerned about higher interest rates and the impact they could have on economic viability. As if that news wasn’t bad enough, pending home sales slipped 20% in June versus a year earlier as soaring mortgage rates began taking a toll on Toll Brothers.
While shares have moved up slightly in the trailing month, the momentum could be largely based on misguided contrarian trading. Fundamentally, higher borrowing costs don’t provide a favorable backdrop for homebuilders, making TOL one of the worst stocks to buy in a recession.
Zillow (Z, ZG)
Although one of the beneficiaries of the initial dynamics associated with Covid-19, Zillow (NASDAQ:Z, NASDAQ:ZG) – a technology-driven real estate marketplace firm – is now an embattled organization. On a year-to-date basis, shares of the company’s Class C stock slipped 45%. Zillow’s Class A shares didn’t fare much better, down over 43% during the same period.
As with Toll Brothers above, the headwinds of higher interest rates and concerns about underlying economic stability represent major distractions for Zillow. Recently, the Federal Reserve lifted the benchmark interest rate by 75 basis points, essentially exacerbating the affordability crisis for prospective homebuyers. In addition, sellers who rushed into the arena may be stubborn about lowering prices, considering that they heard so many stories about buyers bidding up prices well above asking last year.
In addition, the increasing number of layoffs – especially in the tech sector – suggests that even folks who have the money to participate in real estate are going to back off. If the economy stumbles, there will be better discounts to be had. Thus, Zillow is one of the worst stocks to buy in a recession.
Stocks to Avoid in a Recession: Vroom (VRM)
During any period of economic pressure, purchases toward big-ticket items – homes, cars, boats – are incredibly suspect for obvious reasons. With money harder to come by during deflationary cycles, it’s irresponsible to open your wallet to an unnecessary magnitude. Therefore, this dynamic hurts the case for online used-car retailer Vroom (NASDAQ:VRM).
On the other hand, people need cars. According to data cited by the World Economic Forum, 76% of American commuters use their personal vehicles to move between home and work, making it the most popular mode of transportation in the U.S. By logical deduction, if the majority of employers recall their workers back to the office, demand for car wills likely increase.
Therefore, I see both sides of the issue when it comes to the used-car segment. However, VRM is probably one of the worst stocks to buy in a recession because the underlying company must charge a premium for the convenience of delivery services. It’s one cost structure that traditional dealerships don’t have to bother with, making Vroom unfortunately uncompetitive.
Signet Jewelers (SIG)
Emblematic of the human desire for connection and socialization, Signet Jewelers (NYSE:SIG) may be an ideal choice for investors when underlying circumstances are bullish. Billed as the world’s largest retailer of diamond jewelry, Signet operates under various brands, like Kay Jewelers, Zales and Jared. When people feel good about their finances, they may be more inclined to pop the question to their future life partners.
But what happens when economic circumstances sour? It’s a complicated issue. Some evidence indicates that as recessions materialize, both divorces and marriage proposals decline, eventually rising when the good times return. However, when it comes to divorces, recessions can both increase breakups due to rising stress and reduce them through exacerbating cost barriers.
Again, it’s a complicated backdrop. But in my estimation, recessions aren’t great for family planning-related endeavors. Therefore, I would have to peg SIG as one of the worst stocks to buy in a recession.
Stocks to Avoid in a Recession: Macy’s (M)
Based on the available evidence, department store icon Macy’s (NYSE:M) is sadly one of the worst stocks to buy in a recession. Perhaps the best insight as to why comes from Walmart (NYSE:WMT). Recently, the CEO of the big-box retailer, Doug McMillon, had this to say about his company:
The increasing levels of food and fuel inflation are affecting how consumers spend, and while we’ve made good progress clearing hardline categories, apparel in Walmart U.S. is requiring more markdown dollars. We’re now anticipating more pressure on general merchandise in the back half; however, we’re encouraged by the start we’re seeing on school supplies.
Here’s why the above assessment is problematic for Macy’s and its ilk. Essentially, Walmart is saying that consumers are spending money on the essentials, such as education-related products. However, when it comes to discretionary items like apparel, Walmart is having trouble offloading them.
Likely, this matter will be even more challenging for Macy’s, which usually deals with higher-end discretionary goods. Therefore, M is one of the worst stocks to buy in a recession.
Ruth’s Hospitality Group (RUTH)
Back when the Covid-19 crisis initially capsized the U.S. economy, Ruth’s Hospitality Group (NASDAQ:RUTH) – which owns Ruth’s Chris Steak House – suffered a catastrophic drop. With the pandemic forcing government agencies to temporarily shut down non-essential businesses, premium-level restaurateurs faced enormous competition.
Part of the allure of going to a fancy restaurant is the social experience. Therefore, when various jurisdictions relaxed Covid protocols, RUTH rebounded. However, as inflation rises and economic anxieties mount, investors are starting to have a dim view on the company. Since the start of the year, RUTH is down nearly 9%.
While it’s difficult to say with absolute certainty that RUTH is one of the worst stocks to buy in a recession, some evidence suggests that the eateries sector will experience a “trade-down market” effect. Basically, consumers will spend down a level or two, making the higher-priced restaurants struggle.
Stocks to Avoid in a Recession: Lindblad Expeditions (LIND)
Specializing in unique vacation experiences, Lindblad Expeditions (NASDAQ:LIND) facilitates trips to Antarctica and other extreme bucket list destinations. However, with money getting tight, LIND may be one of the worst stocks to buy in a recession.
Indeed, there’s an argument to be made that Lindblad is a value trap. Sure, LIND may be down more than 45% YTD, initially attracting discount divers to the mix. In addition, certain financial performance metrics – such as growth in the first quarter of this year being nearly 38x – seemingly justify the positive speculation.
However, Q1’s extraordinary year-over-year growth rate only happened because in the year-ago quarter, sales were only $1.8 million. Further, on a trailing-12-month basis, the revenue tally of $213.2 million is significantly below the run rate seen in 2018 and 2019, which averaged $326.4 million.
Should economic challenges rise, the expenses associated with Lindblad-facilitated vacations will probably be too much for most consumers to handle.
On the date of publication, Josh Enomoto did not have (either directly or indirectly) any positions in the securities mentioned in this article. The opinions expressed in this article are those of the writer, subject to the InvestorPlace.com Publishing Guidelines.