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Millions of young workers entered the job market in the wake of the Great Recession, and after enjoying over a decade of a bull market, those workers are likely to be less prepared to handle the economic stress of a recession. Thinking about the prospect can be scary.
Based on the history of the market, there is always a next recession — it’s simply a matter of when that next recession will be. Since no one really knows when an economic downturn can hit — an International Monetary Fund study from last year found that between 1992 and 2014, economists failed to predict 148 out of 153 recessions globally — preparation is key. Here’s how to ready your portfolio for a recession.
Think about rebalancing
Don’t discredit your emotions when it comes to investing, because knowing how you’ll react to market fluctuations can help determine how you allocate your investments.
If you think you would pull your investments out when the market starts heading south, having all of your money in stocks may not be for you. Stocks provide the growth long-term investors need, and young investors should have a heavy stock allocation for that reason. But they’re also inherently riskier than more stable investments, like bonds. If you have a portfolio that reflects your age and long time horizon, but a disposition that is more risk-averse, you may want to rebalance into a slightly more conservative portfolio so you can feel confident and weather a recession with as little stress as possible.
If you’re not sure how to do that, consider opening an account with a robo-advisor, a digital investment management service that will help you determine your risk tolerance and then select and manage your investments for you.
Take the time to diversify
As you rebalance, pay attention to how your portfolio is diversified. Diversifying your investments reduces your risk just like spreading out your pieces in a game of Battleship — if they’re all in the same place, they’re more likely to get sunk.
Diversification doesn’t just mean allocating your money across different forms of investments like stocks or bonds. You also want to spread your money across industries, geographic locations and companies of various sizes. This is always important, but careful diversification can especially protect you during a recession.
Invest in the necessities
Utilities are a classic lower-risk investment, but why? Utilities are essentials, and hopefully, most people will not have to forgo them during a recession. Household goods and other necessities are also considered recession-friendly investments.
It would be rash to move your entire portfolio in this direction, but adding a utilities or consumer staples index fund or exchange-traded fund can add stability to your portfolio even if the economy starts to feel uncertain. Here’s more on investing in index funds.
Note: You’ll probably see lots of articles claiming a particular investment is recession-proof. It’s OK to listen to the buzz, but don’t buy into the noise without researching the company and industry. And regardless of how much research you do, resist the urge to try to beat the market.
Preserve your portfolio
Losing a job or having no emergency fund can force investors to dip into their investment savings. Retirement may feel far away, but don’t let that lull you into thinking of those retirement dollars as an emergency fund. The time to get your ducks in a row is before a recession hits: That way, you can deal with potential blows to come without taking money out of your portfolio.
Aim to have an emergency fund of three to six months of living expenses saved in a high-yield savings account. If that seems too high, start with a goal of $500 and work your way up. If you need to make some extra cash to get there, consider finding a part-time side hustle.
Remember that recessions are normal
According to data from the National Bureau of Economic Research, there’s been a recession at least every 10 years since 1858 (and often more frequently, though most don’t have nearly as much impact as the Great Recession). Try not to panic when scary headlines start appearing and remember that staying invested is almost always the best response.
Historically speaking, investors who hold on to their investments through recessions see their portfolios completely recover, and individuals who don’t invest in the market at all lose out.
Young investors have a particular advantage: Their long time horizon means market downturns are an opportunity to buy investments on sale and hold them for long-term growth.