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A perfect storm of crises has led to widespread fears of a global economic recession. The S&P 500 started 2022 with its worst performance in decades. Fears surrounding rising interest rates and inflation have fueled a pullback on Wall Street. Interacting factors, including the fallout from the past two years' COVID-19 pandemic, Russia's invasion of Ukraine, and an economic slowdown in China, have already caused widespread economic panic and may do further damage as cascading negative influences take an unpredictable toll on all manner of investments. It seems that the stock market exuberance of the past few years has reversed, and a recession is all but inevitable. So if the bull cycle is over and a bear market is underway, what does that mean for investors?
The first rule of managing your investments during a recession is to stay calm. This may be easier said than done when you're bombarded with negativity and worst-case scenario analyses, but nothing could be more potentially damaging to your long-term investment strategy than panicking.
The stock market has bounced back from every previous recession. You can be confident that all future economic downturns will eventually stabilize and reverse.
However, that doesn't mean you shouldn't take action to mitigate the worst of a recession's effects on your portfolio. Begin by looking at how you can take a more balanced approach to risk during a recession. A portfolio heavy on equities will likely have performed well during the past few years' bull market. Consider rebalancing your portfolio with more conservative assets, such as bonds. But approach this task with caution; offloading shares during a market sell-off can lock in losses and amplify a recession's negative effect on your portfolio.
Don't Fall into a Bear Trap
Another common mistake in a recession is thinking it's over before it's even begun. A rally follows most sharp downturns in investment markets. Consider that some of the biggest single-day market rallies have come in the midst of recessions. For example, the Dow Jones and S&P 500 rallied in March and May of 2009 following huge losses at the outset of the 2008 economic crisis. This didn't mean the recession was over; it simply meant the initial panic had worn off, and the early sell-off had come to an end.
The key to avoiding making bad decisions in a recession is to mitigate risk wherever possible. Have a clear long-term strategy and stick to it.
Buy When It Makes Sense
Nathan Rothschild of the famous Rothschild banking family once said that the time to invest is when there's blood in the streets. Rothschild would know, as he made a substantial fortune amid the market panic surrounding Britain's Battle of Waterloo against the French forces of Napoleon.
There are many more recent examples that add support to this old investing truism. Warren Buffet used the panic of a deep bear market in the early 1970s to acquire a large stake in the Washington Post Company at a discount price. An investment in Amazon shares after the dot-com bubble burst in the early 2000s would have yielded a huge return on investment.
If possible, keep cash reserves on hand to take advantage of the discounted buying opportunities that a steep market downturn can provide.
Don't Abandon Your Long-Term Investment Plans
Time in the market beats timing the market. A recession provides opportunities and risks in equal measure. The best way to hedge against the potential negative consequences of a recession is to stick to a stable pattern of investing. One way to do this is to dollar-cost average into positions by buying into investments over an extended period of time. This will keep your investment from being catastrophically affected by any sudden market movement up or down.
The investment outlook for someone in their 20s earning their first big salary will be very different to someone who is nearing retirement age. Make sure you have a clear idea of what your investment goals are and what kind of time frame your investments need to perform over. The longer you can wait, the more risks you can take.
Find the Recession-Proof Investment Strategy That Works for You
Like all things with investing, building a portfolio for a potential recession is a highly individualized endeavor. Get expert advice wherever possible and assemble a plan that is right for you and your goals. Remember that the recession won't last forever but be wary that poor planning might mean you're still feeling the effects long after the recession has ended.
DISCLOSURE: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it. I have no business relationship with any company whose stock is mentioned in this article.