There’s been a lot of chatter recently, both inside and outside the world of investing, talking about the possibility of an incoming recession. If we are heading in the direction of negative growth, what does this mean for your portfolio and how can you take advantage of the situation.
In this article, we’ll be exploring everything to do with investing during a recession. You’ll learn how to prepare, and the steps you can take to keep calm and carry on whilst everyone else around you is losing their marbles and acting out of emotion.
Keep on reading for all the details or click on a link to head straight to a section…
What is a recession?
The textbook definition is two consecutive quarters of negative GDP growth.
In other words, our GDP (Gross Domestic Product) has to be in minus territory for three consecutive quarters.
I’m sure you’ll agree that on the surface, this sounds neither particularly exciting or horrible.
The problem with a recession tends to be the atmosphere of fear and economic uncertainty that come along once the economy gets an official ‘recession’ stamp.
Knock-on effects of a lack in confidence can lead to lower levels of investment and reduced borrowing. Consumers tend to hug their money to themselves rather than spending it and keeping the economy moving.
Again, this probably doesn’t sound too bad but it’s these sort of circumstances that eventually lead to job losses once everything trickles down.
Another key problem about recessions is not so much the label itself, but the underlying issues that have led us down a dark alleyway to come face to face with the scary r-word in the first place.
How does a recession impact investments and the stock market?
Typically, a recession leads to a slowdown in the returns for most stocks and shares.
Some businesses will still do well. But, who comes out on top can never be guaranteed. And, the high inflation and rising interest rates we’re seeing right now are likely to play into things.
Investors do tend to look for more ‘secure’ investments, which sometimes means bonds. Or, shares that provide income in the form of a dividend.
This way, if there is little or no growth, investments can still generate a return that you can reinvest or spend.
If you’re looking for income investment options, some areas to check out include:
Generally speaking, a recession can result in lower spending all round. In turn, this can lead to less revenue and smaller profits for firms.
The loss of projected earnings can lead to a drop in the share price and this process just rinses and repeats.
This is why a recession can be problematic. It leads to a downward spiral that can take a lot of momentum to interrupt if the stock market wants to get back on track.
What can you do to prepare your portfolio for a possible recession?
There’s no perfect way to prepare, but there are some steps you can take to make sure you’re in the best position possible.
Before we actually find ourselves in the midst of a recession, you can take some proactive moves to make sure you’re somewhat prepared.
Here are a few suggestions for actions you can take to put you in a good spot to weather a storm of slowing growth:
- Check that your portfolio is diversified and it aligns with your risk appetite.
- Don’t be afraid to cut any dead weight or stocks that you wouldn’t choose to invest in if you were starting from scratch.
- Make sure you’re using a brokerage account like eToro that has low fees and gives you access to a diverse selection of assets (here’s a guide on how to create an account and buy shares).
- Double check you’re making the most of tax-efficient accounts like a stocks and shares ISA or a SIPP (self-invested personal pension).
4 tips for investing during a recession
Here are four top tips to guide you through a troubled economic atmosphere:
1. Look at what’s done well in the past
History doesn’t repeat exactly, but it does tend to rhyme, as Mark Twain famously said.
Looking back at previous recessions, you can get an idea about how certain stocks or industries performed in the past.
Past performance doesn’t guarantee future results, but it will give you some ideas to work with.
If a particular company performed awfully during a previous recession, they’ve likely learned some lessons. But, it may not be a stellar stock to buy and hold during the next recession.
2. Keep an eye out for good buying opportunities
For those that can afford it, investing during a recession can be an rare opportunity to pick up quality investments at a discount.
Don’t just buy for the sake of buying, but if you’re in a secure financial situation, this can be a great time to flesh out your investment portfolio.
Or, you may want to increase some positions you already have. If an investment you own drops in value, investing more allows you to reduce your total cost basis.
3. Make sure you have an emergency fund and some cash
This can be critical to whether you come out on top at the other end of a recession.
Make sure you have some cash saved up and a decent emergency fund. This is going to help you regardless of what the market is doing.
Having some savings could mean you can stay invested throughout, meaning no need to sell stocks at a loss.
Keeping some ‘dry powder’ on the sidelines can also open up some opportunities. Allowing you to take advantage whilst everyone else is floundering about feeling sorry for themselves.
4. Stick to your guns and carry on
As long as you have a solid plan and investment strategy in place, an incoming recession should just be a blip on the radar of your long-term plans.
Recessions are a fairly common symptom of shortcomings for the economic systems we have in place.
If the possibility of a recession means a good chance your portfolio will be ruined, you’re doing something wrong.
Expecting to come through unscathed isn’t realistic, but you shouldn’t be in a precarious place with your investments at any time.
So, once you’ve set up a solid long-term plan that matches your time horizon and tolerance for risk, focus on maintaining your strategy.
Investing regularly throughout a recession can allow you to benefit from dollar-cost averaging.
The best days in the market often take investors by surprise. And you want to make sure you’ve got skin in the game when the rebound takes off.
Everything else investors should know about recessions
A recession isn’t a doomsday event but it can act as a wake-up call.
The key is to make sure you’re prepared beforehand. Don’t put things off until you no longer have options.
Be proactive, but don’t constantly meddle. Set up your portfolio with a solid foundation and then take things as they come, rolling with the punches.
The people who panic and act on emotion or out of fear are the ones who end up losing money. Sometimes even thinking they’re cursed.
If there is a recession in 2022, do you think you’ll even remember it in 10, 20, or 30 years? Probably not.
Keep on your sensible hat and avoid knee-jerk reactions when investing throughout a recession.
On a brighter note, if you want to stay up to date with the latest market news and movements, make sure you sign up for the fortnightly MoneyMagpie Investing Newsletter.
This is not financial or investment advice. Remember to do your own research and speak to a professional advisor before parting with any money.
