What Sectors Do Worst in a Recession?

In recent weeks, investors have had to begin looking at a potentially worsening economic picture. July’s jobs report showed unemployment rising to 4.3%, the highest in almost three years. The stock market promptly responded with a selloff that reflected lower forward growth rates.

The Federal Reserve is also at a point in its interest rate cycle that is historically associated with the onset of recessions, creating even more concern among investors who are now digging in for a potential downturn.

This raises the question of what assets are safe and which ones are perilous to hold when recessions strike. Let’s examine which sectors are most vulnerable to recessions and how they are affected when economic growth turns negative.

Retail

Unsurprisingly, retailers are among the businesses that tend to fare worst during periods in which consumers cut back on spending.

Depending on the severity of the recession, lower consumer spending can lead to anything from lower same-store sales to actual store closures.

While consumers will always have to buy necessities like clothing, food and household essentials, retailers that focus on non-essential product categories are likely to suffer disproportionately during tough economic times.

Recessions can also change shopping habits around the things consumers still have to buy. During the recession that followed the 2008 financial crisis, for example, researchers have found that consumers made a shift to buying lower-priced packaged foods to save money.

Brands that typically commanded higher prices suffered while off-brand equivalents saw much stronger demand.

Construction

Another industry that is deeply exposed to macroeconomic downturns is construction. The Great Recession saw about 2 million construction workers put out of work as housing starts and other new construction projects fell off dramatically.

Though that recession was particularly sharp, the construction industry is fairly vulnerable to downturns due to the fact that construction projects are typically quite expensive and associated with economic growth.

Construction companies can be somewhat slow to feel the pain when a recession starts. This is because a backlog of projects may create a buffer during which the business can operate more or less as usual.

Once that backlog runs out, however, the company may have difficulties refilling it if customers are still unwilling to invest in new projects.

Construction businesses also tend to put off new investments during recessions, a fact that can impede growth for a period of time once the economy does begin to recover.

Travel and Hospitality

As in the case of retailers, recessions don’t drive business out of the travel and hospitality industries altogether. Instead, they force travelers to pare back spending and stretch every dollar they do spend. Often, this leads to plans that include shorter trips, less expensive transportation, off-season travel or trips to less expensive destinations.

It’s also worth noting that the effect of recessions on travel and hospitality isn’t geographically uniform. Areas that are visited mostly by tourists are likely to be hit fairly hard as consumers opt for cheaper vacations closer to home.

Cities with a large amount of business travel coming through them, though, are much more resilient. Hotels and other travel-oriented businesses may also be able to keep their businesses afloat by reducing rates in order to encourage consumers to travel in spite of economic hardships.

Restaurants

The effect of recessions on restaurants is quite an interesting one. Fast food restaurants that provide limited service, run on a tight labor model and focus on delivering value can actually do quite well during recessions as diners opt for cheaper meals.

This tailwind in fast food, however, generally comes at the expense of full-service restaurants that fare much worse when consumers have to make difficult spending decisions.

Intriguingly, there’s a school of economic thought that suggests restaurant sales can be a leading indicator of recessions. Prior to multiple past recessions, restaurant sales have slumped off for periods of up to six months before the broader economy followed suit.

This pattern, of course, isn’t ironclad. Because eating out is one of the first things consumers will trim from their budgets when trying to save money, though, it’s likely a decent gauge for overall discretionary spending and consumer confidence.

Energy

So far, most of the businesses that have been mentioned are closely tied to consumer spending. Naturally, businesses in these areas won’t tend to perform as well when consumers are less able to spend freely.

However, recessions also affect the basic nuts and bolts of the global economy. The energy sector is one such example, as lower economic output and consumption tend to reduce demand for energy.

To some degree, energy companies can counter the effects of this trend by controlling supplies in order to keep prices in a profitable range.

Oil futures, however, still tend to move in line with consumer confidence. While there’s always a baseline demand for energy, the sector as a whole is cyclical and tends to do poorly during pronounced economic downturns.

Manufacturing

As with energy, basic manufacturing can take a hit during a recession as businesses and individuals reduce their spending and demand slumps.

Generally, recessions are associated with significantly declining production across the manufacturing sector. In many cases, this lower production feeds into itself, as factories themselves may have trouble sourcing raw materials or assembled components when production falls off.

In the United States, recessions have played a part in driving the gradual decline of manufacturing employment over the past four decades.

According to data compiled by the Bureau of Labor Statistics, employment in manufacturing has fallen off during each of the last five recessions. Although employment tends to rebound when the economy begins growing again, the trend in recent decades has been for employment to rebound to a point that is still below its pre-recession level.

How Likely Is a Recession This Year?

Even with unemployment rising and Wall Street voicing concern, there’s still no guarantee that a recession is on the horizon. At the moment, projections suggest a roughly 56% probability of a recession setting in this year.

If the Federal Reserve cuts rates enough to buoy the economy without reigniting inflation, there is still a decent chance that the American economy could end out the year without slipping into a period of negative growth.

So what sectors do worst in a recession? Retail, construction, travel and hospitality, energy and manufacturing tend to fare worst during a recession.

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The author has no position in any of the stocks mentioned. Financhill has a disclosure policy. This post may contain affiliate links or links from our sponsors.