Is investing during a recession a good idea? While the markets can fluctuate widely during a financial crisis, recessions can also present an investment opportunity.
The National Bureau of Economic Research (NBER) defines a recession as a period when economic activity declines, gross domestic product (GDP) suffers, and sales and production go through a visible drop. This usually translates to at least two successive quarters of negative economic growth, where stocks and the market fall.
Here are 3 things not to do when investing during a recession.
1. Don’t invest if you don’t have savings
Uncertain times are not the right time to be putting all your money into the market. Instead, you should focus on building a safety net to fall back on until things calm down and stabilise. If you already have emergency savings of three to six months of living expenses, don’t touch them. Otherwise, start putting some money aside before you jump into investing.
If you’re halfway through saving a solid emergency fund and feel your job is secure, you can split your money. Continue to save a little but also use some of your money to dip your toes into the market.
2. Don’t invest if you plan on touching your portfolio soon
Recessions are unpredictable. Even if you buy stocks at what seems like their lowest price point, your portfolio value might still decline further. Or it might go up, only to dip very low again within weeks.
When investing during a recession, you should take a long-term approach. Once you invest, plan on not taking money out of your portfolio for several years. This will allow time for the portfolio value to stabilise. Investing during a recession is not for the faint of heart. You should be ready to wait through a temporary period of loss for long-term success.
3. Don’t buy high-risk stocks
Some stocks are very unstable during tough economic times. While buying low sounds like a great strategy, you don’t want to put a lot of money into companies at risk of going bankrupt.
For example, cyclical stocks are tied to consumer spending and confidence. Examples of cyclical stocks include companies that produce luxury items, hotels and cruise lines, furniture retailers and airlines. During an economic downturn, these stocks tend to lose a lot of their value. They might eventually recover, but they might not.
Non-cyclical stocks (also called defensive stocks) do well even when the economy takes a hit, according to Investopedia. This is because they are tied to companies that cover basic needs, such as energy providers, food retailers and pharmaceutical companies. These stocks tend to remain stable and are a good investing choice for long-term gains during a recession.
High-leveraged companies are also risky during a recession. These are companies with a high level of debt and potential high-interest loans. This puts a burden on the company and increases the risk that it might declare bankruptcy if the recession period lasts. You will need to research each company individually to find out if it’s high-leverage before investing.
Takeaway
Overall, we can learn from past recessions. A recession might be the perfect time to invest – big or small – as long as you protect your assets during the process.
