How to Invest in a Recession
Another recession appears to be looming on the horizon. Inflation is high and the Federal Reserve is trying to knock it down – two historical factors for a recession. A recent Reuters poll found that 40% of economists believe the U.S. economy will fall into a recession within the next 24 months.
A recession means that the total amount of economic growth will continue to fall. But don’t panic. Here’s how to recession-proof your investments – before and during a recession!
- Invest in a recession if you don’t have high-interest debt and have an emergency fund.
- When stock prices drop during a recession, you have an opportunity to buy quality companies at bargain prices.
- Consider value investing as a safer investment strategy during a recession.
- Follow dollar-cost averaging (DCA). It’s a strategy that helps you reduce risk.
- Treat investing as a long-term game so you can still make money over time.
Should you invest in a recession?
Yes, it’s still a good idea to invest in a recession (assuming you don’t have high-interest debt and have an emergency fund built up).
The U.S. has gone through thirteen recessions since WWII. According to CFRA Research, the S&P 500 declined an average of 8.8% during the last four recessions since 1990. But the S&P 500 has actually generated positive returns in over half of the 13 years with recessions since World War II. The point? Money can still be made by investing, despite recessions.
When stock prices drop during a recession, you have an opportunity to buy quality companies at bargain prices. For example, investors panicked during the 2008 recession. Many sold their stocks as prices dropped. This presented an excellent time to buy quality stocks at low prices and hold for the long-term.
Below are three investing strategies on how to invest in a recession:
1. Invest in value companies
Value investing involves researching and buying stocks based on their company’s value, rather than predicting short-term price movements of stocks. The market might undervalue these companies, but they are still high-quality.
This makes it a perfect investment strategy during a recession.
Why? Because no matter what the economy is doing, value companies still retain their value. The price will eventually reflect their true value. You can buy these companies at bargain prices now, hold them, and sell years down the road for a profit. When you buy value stocks, you’re investing in the company as a whole rather than stocks on a particular day.
Warren Buffett said that “the best thing to do is invest in yourself” at the end of the Great Recession. The next best thing? Buffett said to invest in “a wonderful business” that makes products that are in demand regardless of the performance of the dollar.
Healthcare, utilities, consumer staples, communication services, and energy are a few sectors that have historically done well in a recession. Within these sectors, some value stocks include:
- JPMorgan Chase
- Bank of America Corporation
- Berkshire Hathaway
- Procter & Gamble
- Johnson & Johnson
Unlike growth stocks which can’t go up when economic growth is down, value stocks can perform well in a down market at sale prices.
However, don’t assume that just because a value stock is cheap that it’s a safe investment. Analyze your chosen companies’ fundamentals and calculate their intrinsic value (aka what the stock is actually worth). Review a company’s underlying strengths and weaknesses to determine if they are actually undervalued or not and worth the investment.
Warren Buffett sums it up perfectly. In a letter to his shareholders in 1996, he said “If you aren’t willing to own a stock for 10 years, don’t even think about owning it for 10 minutes.”
You also don’t have to invest in individual value stocks. Consider category value stocks such as value mutual funds and value ETFs. This helps decrease your portfolio’s risk. Also diversify your investments to decrease your risk. For example, you might invest in different value companies in healthcare and consumer staples.
2. Follow dollar-cost averaging
Dollar-cost averaging (DCA) means that you regularly invest the same amount of money over time in stocks, mutual funds, or ETFs, no matter what the price is or what the market is doing. It’s a strategy that helps you reduce risk.
Instead of purchasing stocks at a single price point, your money purchases more shares when prices are down and less when prices are up. It takes guesswork and emotions out of investing decisions.
Here’s an example: say that you have saved $5,000 to invest. With dollar-cost averaging, you might invest $416 per month for a year instead of investing $5,000 all at once. You continue to invest, no matter what the market is doing.
3. Treat your investments as a long-term game
Investing isn’t the same thing as day trading. Instead of trying to pick the perfect time to buy and sell, you are buying and holding your investments for at least seven years.
Even if the market is doing poorly in the short-term, you’re not worried about it. You’re letting your money grow over time.
Although past performance doesn’t guarantee future performance, investing for ten years would increase your chances of making a profit to 94.15%, according to global stock market data between January 1971 and December 2021 (despite recessions over that time period). Also, the longer you hold your investment, the more you decrease your chances of losing money:
Here are ways to treat investing as a long-term game:
- Avoid panic selling, even if the market keeps falling.
- Don’t constantly check your portfolio.
- Don’t try to time the market. This is treating investing more like gambling.
- Automate your investments so your money grows while you sleep.
Also, according to John Ingram, CIO and Partner of Crestwood Advisors, “Clients should be comfortable with their allocations and not try to change them once a recession begins.”
He continues, “Given the tendency for investors to sell near stock market bottoms (and miss the market’s rebound), ‘de-risking’ portfolios to protect capital will likely lose money as clients turn a temporary market loss into a permanent one.”
Use a recession as an investment opportunity
Investing during a recession doesn’t have to be complicated or scary. Invest in high-quality companies at bargain prices. Hold them for the long-term. Sell when these companies reach their intrinsic value.
Learn even more about value investing when you sign up for the Value Investing Bootcamp: How to Invest Wisely on Udemy. This course helps you learn how to become a successful value investor, step-by-step. Check out the course here.