In the past, I’ve written on both market corrections and the history of recessions in the United States. The truth is that there will always be a fear of market volatility for investors, and it’s worth discussing not only what a recession would look like, but also how to protect yourself against one if the market should dip in the near or distant future.
Although nobody can predict the economy, and it’s not wise to invest by trying to time the markets, there are a few ways you can start protecting yourself against a potential recession. Let’s explore what those options might look like, and what else you should know about future recessions.
A recession is defined by the National Bureau of Economic Research (NBER) as “a significant decline in economic activity spread across the economy, lasting more than two quarters, normally visible in real gross domestic product (GDP), real income, employment, industrial production, and wholesale-retail sales.” In other words, it’s a period of six months during which the country’s economy has declined.
It’s true that nobody can time the market, and chasing returns isn’t a sound investment strategy. However, there are a few things you can do to “recession-proof” your finances to the best of your ability - especially as you near retirement.
Diversify Your Portfolio
The primary step you can take to insulating yourself from an economic downturn is to diversify your portfolio. Ensuring that you aren’t completely invested in one type of asset helps you to diversify your risk. The old adage to avoid putting all of your eggs in one basket rings true.
Keep an Emergency Fund Accessible
Having a cash savings account with 3-12 months of living expenses tucked away is a good step to take if you’re worried about a recession or potential layoffs. However, if you’re getting closer to retirement, you should also have an “emergency fund” for your retirement savings. This means having anywhere from 2-5 years of your holdings in easy-to-access investments.
These investments might be bonds or other types of assets that are easily sold and converted to cash. By keeping this portion of your portfolio low-risk, you’re setting yourself up to have consistent income in retirement even if a recession hits after you’ve already stopped working.
Get Out Of Debt
The fewer debt payments you have to worry about when times are tight, the better. Take advantage of bull markets, and the bonuses and pay increases that often come with them, by getting out of debt quickly. Then, once you’ve paid off your debt - work to stay out of it. This will be a benefit to you both financially and emotionally if there is a recession in the near (or not-so-near) future.
Have an Emergency-Budget
Do you know what your budget will look like if you or your partner get laid off? What about if your children default on the student loans they’ve co-signed because they’re unable to get a job in a bear market?
Having an emergency plan for your household budget can help you keep calm and make metered financial decisions when emotions and stress are at an all-time high. Your emergency budget might look like cutting expenses or picking up part-time work to increase cash flow. Whatever your plan is, you’ll feel calmer just knowing that it’s in your back pocket.
Remember: Focus on time in the market - not timing the market.
The longer your investments have in the market, the more time you’re giving them to grow and recover as the economy slides up and down over the years. Rather than focusing on how to time the market, the majority of advisors will recommend focusing on long-term investment strategies.
Are you concerned about whether your finances are recession-proof? Reach out to our team.
Talking to an advisor can help. Together, we can stress-test your financial plan, and build a strategy that takes a worst-case scenario into account.
Wood Smith Advisors, a woman-owned Registered Investment Advisor (RIA), is a fee-only financial services firm that partners with its clients to simplify their financial lives. We focus on women, entrepreneurs, and individuals with complex financial situations, providing objective and competent advice, education and services to help them develop and build their businesses and reach their financial goals. We can be reached by clicking here.
"Finance Made Simple" blog posts are intended for educational purposes and not for specific advice. Each person’s situation is different. Consult your financial advisor for advice relating to topics discussed.