Keep calm and carry on
The most common definition of a recession is when gross domestic product — a country’s combined economic output — shrinks for two straight quarters. By that definition, the U.S. is in recession because of the economic fallout from the coronavirus pandemic.
As an investor, it’s important to keep your emotions in check and make sure that all investing decisions are in line with your broader investment goals. Unless you need to withdraw money right now to cover your necessary expenses, many people should consider simply leaving their investments alone. The stock market tends to grow in the long-term, even after a massive downturn such as the Great Recession. In fact, a recession may even be a perfect time to invest more.
Read on for our advice on investing during a recession.
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Before getting into the investing moves to consider during a recession, we suggest taking two simple steps to strengthen your personal finances, whether you’re planning for this recession or for the next recession:
Update your budget
Build your emergency savings fund
Budgeting sounds daunting but a budget is just a tool for showing you how much money you’re spending and what you’re spending that money on. During tough times like a recession, a budget can also show you where you can afford to cut back on your spending if necessary. If you don’t have a budget, make one. Start with our simple budget guide.
An emergency fund is savings that you have set aside so that you have cash on hand to help cover unexpected bills. Emergency funds can also help cover your regular expenses should you lose your job or have to cut back on your hours during a recession.
Once you have reviewed your budget and emergency fund, here are our five pieces of advice to help you invest during a recession:
Stick to your plan.
Take a long-term approach.
Check your asset allocation and diversify.
Don’t withdraw money unless you need it.
The best advice for someone who’s investing during a recession is the same as the advice printed on the cover of “The Hitchhiker's Guide to the Galaxy” by Douglas Adams: “Don’t Panic!”
It’s true that stock markets will go down and you will see short-term losses during an economic downturn, but you’re probably not helping yourself if you panic and either pull everything out of the stock market or make major changes to your investment portfolio.
Before you read any further, take a deep breath and fight the urge to panic.
The stock market will always fluctuate and all investing comes with risk, no matter what you invest in or when you invest. As Patrick Hanzel, a Certified Financial Planner and advanced planning specialist at Policygenius, says, “Markets are constantly fluctuating so it's important to stick to your plan regardless of short-term volatility or what news outlets are reporting.”
If you don’t have an investment plan, now is a good time to make one. If you do already have a plan, then you may want to reassess to ensure it’s still accurate. Here are some questions to ask yourself as you update or create your financial plan:
Why am I investing? What’s my goal for this money?
When will I need to withdraw this money?
How much can I afford to invest?
How much risk am I willing to take on?
Do I want to closely manage my investments or am I looking for more of a set-it-and-forget-it approach?
Am I investing just for myself or will someone else, like a spouse, also need this money?
What happens to my money if something happens to me?
If you need help understanding the best investment strategy for you, talk with a financial advisor.
Stock markets are unpredictable in the short-term, but stock markets have always rebounded after recessions and risen over the long-term.
As an example, consider the most recent market downturn: the Great Recession. Economies were disrupted all over the world and major U.S. stock markets like the S&P 500 fell in value by about 50% between 2007 and 2009. But about four years later, in 2013, the stock market had reached and surpassed its pre-recession levels. In fact, after the Great Recession, the stock market saw its longest period of growth and broke multiple records before the coronavirus pandemic.
Even after record losses for the stock market in March 2020, U.S. stock markets steadily increased over the next few months to largely cancel out the losses. It’s also worth mentioning that if you look past the market volatility in early 2020 to check the stock market’s long-term growth, U.S. markets were valued about twice as high midway through 2020 versus before the Great Recession.
While there’s never a guarantee that investing will result in future gains, many people may benefit from simply riding out a recession in order to realize long-term stock market gains. Even if you’re saving for a retirement that’s 10 or 15 years away, short-term losses right now could very well balance out before you need your money.
Related article: Better prepare for your retirement with our guide to 401(k) plans.
Your asset allocation is your mix of investments. For most people, managing an asset allocation means balancing riskier investments, like stocks, with less-risky investments, like bonds or a money market account.
Riskier investments can lead to bigger gains but they may also be more volatile. It’s important to consider your timeline — how long you have until you actually need the money. (You may hear this called your time horizon.) Someone who plans to retire in 10 years probably doesn’t want to put 100% of their money into stocks, even if there’s the potential for big gains. Similarly, someone who’s investing for a retirement that’s 30 years away could have the time to weather possible losses from a risky investment.
Lower-risk investments, like bonds, won’t provide the same rate of return as many stocks but they will usually better protect you from losing all your money when the stock market underperforms. For that reason, many investors’ asset allocations change over their lives such that there’s a higher percentage of stocks at a young age, but a higher percentage of fixed income investments — including bonds and CDs — later in life as they near retirement.
Regardless of your exact asset allocation, it’s also a good idea to diversify your investments. When we asked CFP Kimberly Foss her money advice from the past decade, she simply stated "Stay diversified and stay your course."
Keeping a diversified portfolio essentially means don’t put all your eggs in one basket. During a recession, it’s common for certain companies or industries to perform better than others. For example, real estate companies struggled during the Great Recession but utility companies fared better. During the coronavirus pandemic, the retail and travel industries saw big losses but some technology and telecommunications companies saw revenue growth. To hedge your bets, don’t put all your money into one company or industry.
Many people use mutual funds or exchange-traded funds (ETFs) as an easy way to increase portfolio diversification. A fund may contain stock for hundreds of companies and is significantly cheaper than buying all of those stocks individually. Index funds are a common type of ETF for stocks. There are also bond funds and funds based on other assets, like gold and oil.
If you need help creating a diverse portfolio, you may want to look into investing apps and robo-advisors. They create a diverse portfolio of ETFs based on your age, goals, and risk tolerance. Here’s our roundup of this year’s best investing apps.
It’s understandable to wonder if you should just withdraw all your money when it looks like the stock market is going down. This isn’t the best option for many people for a couple of reasons.
As of July 2020, the stock market is doing much better than at basically any point since the Great Recession. If you withdraw any money that you invested over the past five years, there’s a good chance you’re losing money because you’re selling shares that are at a lower price now than when you bought them. (There is a silver lining, though. You may save on your taxes next year because of capital losses.)
Even if you aren’t selling your investments at a loss, what’s your plan after selling? Many people end up reinvesting in the future when it looks like the market is performing better. The result of this would be selling at a low point and buying at a high point, which leads to a loss because a dollar simply gets you less when things are more expensive. So while it’s perfectly fine to withdraw money if you need to use it right now, don’t get stuck losing money because you were trying to time the market.
Unfortunately, recessions are often a time when companies cut back and people either lose income or lose their jobs. If you think you’re at risk of losing your job, you may want to sell some investments in order to make sure you have liquid savings.
If you’re currently investing in a retirement account, you may opt to lower your contribution rate instead of completely eliminating contributions. Saving for retirement is always an important financial goal and continuing to save something is better than nothing.
Try our free savings calculator to see how your savings may grow in the future.
If you’ve ever read anything about investing, you’ve probably seen the phrase “buy low, sell high.” This simple advice (while not always easy to do) has helped many people to make money in the stock market. It’s hard to predict exactly what the stock market will look like in the future but if markets are down right now, there’s a fair chance they’ll be higher in the future.
As Patrick Hanzel explained to Policygenius Magazine in a talk about investing during the coronavirus pandemic, “Sometimes we need to look at the glass half-full, as market downturns can provide a great opportunity to invest some additional cash.”
So whether you have an extra $5 or $500, consider investing during a market downturn. Lower stock prices mean you can get more shares for the same amount of money, setting yourself up for bigger gains when the economy recovers (especially if you’re investing in a stock that offers a dividend).
Read more: What CFPs are saying about coronavirus.
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