A recession is defined as a period of temporary economic decline during which trade and industrial activity are reduced, generally identified by a fall in GDP in two successive quarters. Well, we just had our first negative GDP quarter, and there is much speculation that our next quarter will also be negative…a recession.
The stock market has likewise responded with stocks falling almost 20% since its January peak and touching Bear Market status briefly on Friday, May 20th. A bear market would be defined as being down 20%, which is a real possibility and investors are getting nervous.
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There are many reasons for the downturn. Russia’s war with Ukraine has disrupted the supply of wheat and oil; China’s zero-tolerance COVID policy has disrupted the oceanic supply chain; reduced U.S. energy production has affected gas prices at the pump. The list goes on. With so much turmoil and uncertainty, what is an investor to do?
This is certainly not the first recession we have experienced so a quick history review can provide clues for smart investing. Since WWII, the United States has experienced 12 recessions. It is also instructive to note that since WWII, the stock market has gained on average 11% per year. In other words, the stock market, historically speaking, always rises over time. The average bear market takes 27 months to recover…so most are relatively short-lived. The worst bear market in recent history, the Great Recession of 2008, took about four years to recover.
Recession-Proof your Portfolio
The cardinal sin of investing is to sell stocks when they are temporarily down because you need money for personal expenses. Therefore, you will want to have a ‘safety net’ of cash for expenses equal to a minimum of three years of estimated expenses. More conservative investors may want ten years or more. This can be held in money market accounts, shorter-term or laddered CDs, shorter-term, high-quality bonds, bond funds, or treasuries. Rely on your safety net to get you through until the economy and stock market recover.
Avoid Doing the Following
Too often, investors run for cover (sell stocks) during the worst headlines about the economy and stock markets. This is usually a flawed strategy because you must make not one but two correct calls. You must also get the ‘getting out’ call right, and you must get the ‘getting back in’ call right. I remember one investor who insisted on selling his portfolio to cash during the 2008 bear market. When it came time to get back in, he was extremely late and missed more than half of the upside…money he would never get back. Looking back, it was clear his best move would have been to remain invested.
Speak with a certified financial planner about your unique situation to help you determine the best course of action.
