Rounding it up
Recessions are marked by two straight quarters of negative gross domestic product (GDP); interest rates tend to rise, things become more expensive, and employers may cut jobs.
Investing during a recession can be very profitable if you stick to your budget and invest properly; stocks don’t just go down and depending on the industry, many rise considerably.
Consider index funds, medical companies, businesses that produce consumer staples like food and clothing, and companies with great balance sheets.
Avoid heavily leveraged companies and those that produce luxury items that consumers may hold off purchasing.
You would likely drive yourself nuts if you watched the daily movements of the stock market. It’s up one minute, plummeting the next; there’s red lines and green lines all over the place; and, if you’re watching one of the major television networks, you’ve got lots of people talking at you about the value of this stock and that stock and…ah! It can be overwhelming. Stocks and investing, however, are an important part of a sound financial life.
The news is full of recession talk, and since you know that investing is such an important part of your financial health, you may be asking yourself if it’s smart to be investing at all right now. Do stocks only go down during recessions, or are there some that tend to rise, increasing in value? Luckily for you, we’re going to explore that question in this article.
Before we get too far, we should review a few of the basics on recessions because they’ll keep coming up as we discuss investing. A recession is defined as two or more quarters of negative growth in gross domestic product. Put simply, this means that for about six months, a country has produced and sold less things. Recessions have a profound effect on everything from the production of raw materials needed to building new homes to the global shipping of electronics.
What are some general things I can do?
Great question. Aside from investing, there are a few things you can do before and during a recession that can help you weather the storm.
Because central banks raise prime interest rates to combat inflation, interest rates during recessions tend to become more expensive. This means that debts like adjustable rate mortgages or credit cards can start to become very expensive. Strongly consider paying down as much as possible, and if you have an adjustable rate mortgage, put some thought into refinancing it into a fixed rate, even if it is a bit higher. You may also want to take out a personal loan to pay off credit card bills. Additionally, if you can, it's best to avoid large credit purchases.
It’s more important than ever to stick to your budget during a recession. Particularly during our current economic troubles, things are more expensive, meaning you may need to expand your budget for certain things like groceries, and retract a bit on other spending.
Strongly consider an emergency fund that you can fall back on if needed. During recessions, employers are under pressure to cut costs and they often do this by cutting employees or lowering pay. Ideally, you should have enough cash socked away to tide you over for a few months should you lose your job.
Do you have other skills? Maybe you make jewelry or are really good at turning out marketing copy. Maybe you really like to walk dogs. Whatever it is, a side hustle can really help you supplement your income and help offset some of the increases you’re dealing with in prices.
And of course…
Invest! Do stocks always go down?
Investing is one of the best things you can do in a recession because stocks don’t always go down! Certainly some stocks do, but in some ways, you want that to happen. Let's look closer at what's going on.
Remember that anything that goes up must eventually go down. During an expanding economy, stock values rise and employment is up. Eventually, both of these numbers peak and begin to fall, marking a recession. There are certain types of companies and industries whose stocks will fall during this time because they are linked to consumer confidence, or how positively consumers feel about their personal financial situation.
Non-essentials: Sometimes known as discretionary expenses or luxury items; things that consumers don’t absolutely need to purchase tend to perform poorly and go down during a recession. These include things like consumer electronics, jewelry, and even vacations. If consumers don’t need it to survive, they’ll typically avoid it. These company’s stocks tend to underperform during this time.
Credit required: Consumers generally avoid purchases that require credit or loans to complete. This includes large appliance purchases, automobiles, boats, and other transportation and home improvement items. Companies that provide these items and services won’t do as well in the stock market.
Highly leveraged: This can be hard to determine without looking at a company's balance sheet. Any business that is highly leveraged–that is has a very stark debt-to-income ratio –tends to underperform in the market during recessions. This is because credit becomes more expensive to service, eating into profits and revenue that would generally go to product improvement or dividends.
There are also a few stocks that tend to go up during recessions or are even “recession proof”:
Staples: Companies that offer key products and services to consumers tend to perform well during recessions because consumers will always need what they offer. This includes grocery stores, clothing retailers, firearm manufacturers, cosmetics, and alcohol companies.
Steady: Companies that have a long history or have strong balance sheets tend to weather recessions well. These tend to include things like utilities and larger companies that have the balance sheet to weather a financial pothole.
Medical: Companies that offer medical services, equipment, or medicines will always perform well during recessions because folks always need their services.
Index funds: These investment instruments track whole markets and history has shown that their results tend to beat out investing in individual stocks over the long term. In fact, just 26% of managed funds beat out index funds over the decade that ended December 2021. By their very nature, index funds are diversified and can offer relatively safe investment opportunities.
Tips and tricks for investing during a recession
So we know that all stocks don’t go down, but why should you invest during a recession as opposed to just holding onto your cash? Moreover, what do you need to know?
On the whole, stock values are at their lowest during a recession. This means you can buy into many stocks that you may not have ordinarily been able to invest in. Additionally, because you’re buying so low, your investments are more likely to increase in value.
How risky are you willing to be with your money? Understanding your risk tolerance before you invest is crucial to ensuring that you are comfortable while you’ve got your money on the line. If you’ve got a stable job, are in a good budget situation, and have some extra cash, you may be willing to be a bit more free with how you invest, taking a few long shots on some companies that seem intriguing. If, however, you’re on a limited budget or if you are older and thus needing to hold onto a lot of your invested capital, consider taking a more risk-averse approach, investing in companies that have a history of performing well.
A different kind of investing, but if you’re looking to purchase a house, a recession may be a good time. Generally speaking, homes tend to stay on the market longer during recessions because credit is more expensive, reducing competition. This means that buyers can ask for concessions and price assistance from sellers. This isn’t necessarily the case yet, as the supply of homes hasn’t yet met demand, but when it does, investing in a home could be a smart move.
This is important regardless of the economic situation. When you’re investing, it's important that you do not panic. Yes, stocks may plummet one day but they almost always go back up as well. If you get frightened and sell at the bottom of the market, you’ve lost the bulk of your investment.
Don’t time the market or day trade
It’s tempting to try to time when the bottom of the market will come or to trade stocks based on what a specific company or industry is doing that day. Avoid this temptation. Yes, you can do these things, but it takes a lot of computer power and a lot of experience to get it right and even the folks that have both of those things sometimes get it wrong. Invest in stocks that you want to hold for years and watch grow.
Stocks don’t only go down during recession, and in fact, many of them continue to go up or at least remain static. However, you actually want some of the stocks to go down. This allows you to buy into a company and grow with its stock price over the coming months or years. Investing during a recession can be stressful, but as long as you don’t panic and manage your budget, you can take meaningful steps toward your financial goals.
Dan is a runner and writer living in the Washington, D.C. area, where he currently works for a financial services trade association as the Communications Director.