The word “recession” may sound frightening to an investor. But if you’re worried about how to protect your Investments from economic collapse, we have good news: There is usually little to fear.
Recessions are a natural part of the economic cycle. The vast majority of them do not lead to extensive periods of economic devastation. Instead, they last about a year on average and reduce Gross Domestic Product by about 2%.
If you prepare properly and adjust accordingly – you can emerge in a stronger financial position than before.
With that in mind, let’s take a closer look at how to protect your investments during a recession.
Stress Test Your Financial Plan
Learning how to protect your savings in a recession begins with a financial plan. When we make financial plans, we typically calculate:
- How much we earn in a given year
- How much of that we should save
- How much we should invest
- How we should invest
Creating a detailed plan like this is a smart way to ensure that you meet your long-term financial goals. However, these plans are typically made in a vacuum. In other words, they don’t take into account macroeconomic developments that alter your ability to save or invest a pre-set amount.
In a recession or period of high inflation, you may need to revise your plan to reflect the new economic reality. Your earning power and spending power may be diminished and your risk level may change. Without proper planning, your savings may be insufficient to cover diminished earnings, forcing you to liquidate investments and possibly taking your retirement planning off track.
To avoid these scenarios, you can stress test your financial plan.
- First, clearly define your budget
- Then project your cash flow
- Once these are defined, evaluate your investments with an eye on maintaining the right risk/reward balance. Aggressive portfolio allocations weighted toward equities will get you to your desired retirement number sooner, but also may set you back if a recession negatively impacts the stock market.
- Now, stress test your financial plan by considering possible scenarios such as a 6-month period with no income, longer life expectancy, higher expenses etc. How would this impact your ability to save and invest?
If this sounds too complex, an experienced broker can help walk you through how to simulate scenarios and project the impact each scenario would have on your retirement plan.
Add to Your Emergency Fund
Most recessions are accompanied by job losses, as companies deal with lower demand, higher debt and eroding profits.
Protecting yourself financially from any potential loss in earnings begins with building a significant emergency fund.
Generally speaking, it is advisable to have enough money within your emergency fund to cover at least six months of your household expenditures. If you aren’t there quite yet, keep working toward that goal.
A six month nest egg gives you enough flexibility to search for a new job without tapping into long-term assets for liquidity – something that can result in negative tax implications.
Follow Through With Your Long-Term Investments
Recessions are often an excellent time to focus on long-term investing. If the stock market drops sharply, investors have a chance to add their preferred equities at discounted valuations.
The old adage of “be greedy when others are fearful and fearful when others are greedy” applies here. Taking long-term positions during a bear market where values seem to drop daily may seem counterintuitive, but bear markets are always followed by bull markets.
The key is to identify strong companies with solid financials and growth prospects and make them a part of your long-term strategy.
Cut Expenses and Look to Save More
A recession is an excellent time to trim the fat from your budget. Some areas you may wish to cut include:
- Money spent on restaurants
- Money spent on entertainment
- Household energy use
- Transportation costs
- Canceling subscriptions for services you do not use often
Cutting discretionary spending – and living more frugally in general – can free up more money for your emergency fund or your investment portfolio.
If you’ve ever asked yourself “what are the safest investments during a recession?” The answer is simple: federal and municipal bond funds, money market and dividend funds and utility funds are all among the safest places to put your money.
How R.J. O’Brien Can Guide You During a Recession
How to protect your assets in a recession is a question that preoccupies most investors. The professionals at R.J. O’Brien can walk you through the best strategies to protect money from recession and ensure long-term investing success.
R.J. O’Brien’s advanced trading platform also provides all the trading tools you need to execute your strategies efficiently.
Contact us today and let us help you get the most from your investments.