Okay, don’t panic. We’re not in a recession. But we need to be practical about the fact that a recession in the future is inevitable and a natural part of an economy’s business cycle.
The economy naturally goes through phases; ups and downs in production of goods and services. There is expansion, peak, recession/contraction, trough. Then you go right back into recovery/expansion.
While unpredictable, each business cycle will have indicators that give insight into the condition of our economy. Think, changes to unemployment rates, new manufacturing orders, or industrial production.
A recession is part of the contraction phase of the business cycle. This is when there are two consecutive quarters of decline in GDP (6-months). Unemployment may begin to rise, and you’ll notice less people shopping or spending their money on wants.
While we can’t predict the next recession or know how it will compare to the Great Recession, we can do our best to plan and make sure we’re well situated.
SO HOW DO YOU PREPARE FOR A RECESSION?
Build Up Your Emergency Fund
During a recession, businesses often aren’t producing as much income as they may have been during other phases of a business cycle. The most expensive overhead cost to a business is its employees. This is one of the first areas a firm will make cuts in order to save money. This is what attributes to unemployment.
By having a healthy emergency fund, you can protect yourself and your finances against the risk of unemployment. While unemployment compensation exists, it often isn’t enough to cover a full month’s worth of living expenses.
Aim to have three to six months’ worth of living expenses in a liquid savings account. Three months if you’re married and have two steady incomes, six months if you’re single or are married and live on one income. The time frame of cushion should depend on how long you think it might take to get another job of comparable income.
Get a Handle on Your Debt
This is something you should have a handle on in general. But making sure you limit your consumer debt is going to make things less stressful during periods of contraction. If you were to become unemployed, you won’t have to worry about debt payments and therefore needing to cover less in living expenses.
Recessions have notoriously been stressful for individuals. Job loss, investment losses, etc. Get your high-interest consumer debt paid off asap so you have one less worry in the future.
Diversify Your Investment Portfolio
Have you heard the term “don’t put all of your eggs in one basket?” This is the definition of diversification.
By making sure your investments are properly diversified, you spread out the risk by making sure your investments aren’t 100% concentrated in one investment, assets class, sector, etc.
For example, being invested in a balanced mutual fund will diversify you into equities and fixed income (two different assets classes). Or, investing in US Equities ETF and an International Equities ETF will diversify you among different regions.
It is important to spread out risk, so if the performance in one holding starts to underperform, your other holdings won’t follow suit.
Have a plan
Having a financial plan and focusing on goals-based investing is going to take the emotion out of your finances. While not eliminating emotions entirely (behavioral finance is a real thing 😊) we can attempt to soften our reactions to changes in the market through planning.
When you have a financial plan, instances of ups and downs in the market should already be considered. That means if you are implementing and monitoring your goals, a blip in the market shouldn’t be a deal breaker. Keep doing what you’re doing and revisit your plan on an ongoing basis.
Carolyn Rowland is a CERTIFIED FINANCIAL PLANNER™ passionate about empowering individuals to take control of their financial landscape. “We often tend to place our own priorities on the back burner for others, resulting in sacrifices we don’t often realize we’re making.”Carolyn believes in taking a values-based approach to financial planning. “Together we’ll define what matters most to you, what you want your life to look like, and develop a plan that fits your lifestyle.”CC
Carolyn Rowland is in the Milwaukee WI, area.