How to prepare for a recession: 6 steps to take
Is the U.S. in a recession? Is it heading toward one? Economists and investment strategists are analyzing a number of head-scratching economic variables to get the answers.
What’s more evident is that a recession – represented by two consecutive quarters of declining gross domestic product (GDP) growth under some definitions – is just a market cycle. If it arrives, it will depart, and another will inevitably emerge down the road.
Although your balance sheet could look gloomy during an economic downturn, there’s no need to panic. You can take action now to help prepare your finances for a potential recession. These six steps can come in handy today or anytime economic uncertainty surfaces.
A financial plan is designed to help you take control of your money – and not just in a strong economy. Keep it updated and “stress test” it to ensure you’ll be in good shape even if difficult financial scenarios arise, such as losing your job or the markets going into a market correction or bear market territory
Then, avoid the temptation to deviate from your plan. A decision like taking an early withdrawal from a retirement account could have huge implications for your financial well-being down the road..
If you don’t yet have a financial plan, now’s a great time to create one that accurately reflects your spending, savings, goals and risk tolerance.
An investment strategy may be just one component of your financial plan, but it’s important enough to deserve its own entry on your checklist. Ideally, you’d head into a recession with a diversified portfolio that’s designed for your risk tolerance and the length of time you plan to stay invested. A diversified portfolio includes a mix of at least two asset classes. The most common asset classes are stocks, bonds, real assets (e.g., real estate and commodities) and cash and cash equivalents.
While you may need to make tweaks along the way to keep your portfolio balanced, you should plan to generally stay the course with your portfolio. If you pulled your money out of the market with stocks at their lows, you’d lock in losses and would miss out on the rebound. Plus, there are always tax ramifications to consider carefully before selling investments.
When it comes to managing finances, one of the biggest mistakes people make is not having a budget – and not knowing what they’re spending their money on. An up-to-date budget can provide the full picture you need to make smart financial decisions. It can illuminate expenses you could potentially cut, like subscription services you don’t use. It can also help you determine whether you can or should make big purchases, which is especially important if doing so will add debt during a recession.
A budget can also help you find solutions for paying down the debt you already have. Maybe you have leftover cash at the end of the month that could go toward reducing your high-interest debt, for instance, or maybe you could benefit from consolidating multiple debts.
A June 2022 Bankrate survey found that 58% of respondents are uncomfortable with their level of emergency savings. If you can relate, start setting funds aside in a money market account, high-yield savings account or other option where your money can grow and will be easily accessible.
A general rule of thumb is to save three-to-six months’ worth of household expenses, but how much you need really depends on your personal circumstances.
Consider also getting approved for a line of credit like a home equity line of credit or a securities-based line of credit, which you can typically do at no cost. You could draw against it if you need money immediately.
Hopefully your job will be just fine during a recession, but downturns do have a way of destabilizing a wide swath of industries. Just in case, start or continue networking with connections to help boost your chances of finding a new job quickly. In addition, keep both your resume and your skills up to date.
A side gig, meanwhile, can help you bring in additional income. Think of ways to earn cash by doing something you enjoy, like pet sitting, freelance writing or teaching people how to knit. There’s always a chance that a successful side job can develop into a full-time career.
Bad actors who commit financial fraud aren’t likely to stop their activities during a recession. In fact, desperate people experiencing economic hardships could join their ranks.
To protect your finances in a recession, regularly check that all the charges on your bank and credit card statements are legitimate. You can also sign up for security alerts relating to activity on your financial accounts.
Make it a habit to look over your credit reports from Equifax, Experian and TransUnion to confirm that there’s no suspicious activity there either. Putting a fraud alert or credit freeze on your reports can help prevent criminals from opening accounts in your name.
Ultimately, doing the work to prepare for a recession or economic downturn is an investment all its own. By following this checklist, you can enter a period of turbulence with confidence and a well-deserved sense of control.
Just as your life evolves, so should your financial plan. Learn how we can help you design a plan that fits your life.