Investing during a recession may sound intimidating. After all, choppy economic waters often indicate a bear market is coming.
Yet the truth is there is no real reason why most people should avoid investing in a recession. Historical trends show us that recessions and bear markets are not perfectly parallel phenomena. A bear market has accompanied a recession about 83% of the time over the last 50 years, according to financial analysis.
Additionally, the well-informed investor should have the capacity to make profitable trades in almost any market environment.
With that in mind, let’s take a closer look at how recessions work – and how to trade them effectively.
What is a Recession?
A recession is a sustained period of economic slowdown. Conventionally, this has been defined as a period of temporary economic decline that is identifiable by a drop in Gross Domestic Product (GDP) for two consecutive quarters.
Other hallmarks of a recession include higher interest rates, reduced employment, lower consumer spending, declines in retail and industrial activity and declines in personal income.
Tracking the US Treasury yield curve is another method of predicting a recession. Treasuries with a longer maturity date typically provide higher yields. On rare occasions, shorter-term treasuries will provide higher yields – a phenomenon called the yield curve.
A yield curve is not a guarantee of a looming recession, but it does usually precede one.
Is it Safe to Invest in a Recession?
The short answer is yes – but only if you are informed and prepared. Your recession investment strategy should be guided by historical data and trends.
It’s important to understand that a recession is completely normal and, in fact, necessary according to most economists. Recessions can help increase productivity and competitiveness, encourage fiscal discipline and reset inflated asset prices. The US has experienced more than 30 of them since the 1850s, ranging widely in length and severity.
While they may provide challenges in the short-term, recessions invariably end – and they provide opportunity for investors while they last.
What to Invest in During a Recession?
Finding the best investment during recession periods depends on timing. Early in a recession, traders should look to invest in industries that are considered recession-proof or recession-resistant. Grocery stores, pharmacies, utilities etc. are the types of categories that are less vulnerable to recessionary pressure.
Once the bottom appears to be close, pivoting toward stocks that are especially vulnerable to a recession is one common approach, as investors seek to profit from the swing back. Once stocks find their low during a recession, the average one-year forward return is 40%, according to Yahoo Finance.
What is a Good Investing Strategy During a Recession?
Investors often take defensive positions early in a recession. This may mean buying positions in assets that perform better during recessions (such as stocks in healthcare or consumer staples) or taking a short position against assets that perform badly during a recession.
Generally speaking, it’s also important to focus on well-managed companies with resilient business models and strong balance sheets. Companies with positive dividend growth are often well-positioned for economic downturns.
Not every company is prepared to make it out of a recession intact. Betting on the horses with the strongest underlying fundamentals is a smart way to avoid going bust.
What Not to Invest in During a Recession
Historically, investors have been wise to avoid highly speculative investments during a recession, as they tend to perform the worst. During periods of economic uncertainty, investors often flee to safe harbor assets (such as blue chip stocks or bonds) and sell speculative assets. Other categories to avoid include cyclical assets or anything with high leverage.
Investing after a recession is often a good opportunity to benefit from a reset in valuations. However, it’s important to remember that bear markets typically end before recessions do. While this isn’t a given, it is generally true, and it provides a rough guidepost for changing your tactics.
How RJO’Brien Can Guide You During a Recession
To thrive in a recession or a bear market, traders need access to actionable information and the right set of trading tools. Sometimes, they also need help from a trusted investment partner.
At RJO’Brien, we provide you with access to all of that and more. Our team of savvy professionals can help give you the confidence you need to trade any market, even during periods of economic downturn.
By pairing our knowledge with the industry’s leading full-featured trading platform, you can create the necessary edge required to make more informed trades and develop winning positions – regardless of the macro environment. Contact one of our investment experts today!