Economic Downturns and Other Black Holes
Have you started to hear rumblings from your friends, colleagues, family, or the media that a recession is probably coming soon? Are you nursing a fair bit of anxiety about it?
Rest assured: a recession IS coming.
Yes, that’s right. Recessions are built right into capitalism by way of the business cycle. What we don’t know, now or ever, is when it’s coming.
In fact, strictly from an academic perspective, we only know that a recession has hit 6 months after it starts.
However, that doesn’t mean we can’t prepare for one. In fact, it’s what we help our clients do all the time, not just when a recession is looming. We simply call it prudent financial planning!
Things We Can’t Control
A recession is a great example of “things we can’t control”. We can also add the following to this list:
- How the stock market will perform;
- How the real estate market will perform;
- The weather;
- What tax rates will be.
But we can still prepare to better survive a recession.
Things We Can Control
You’ve probably heard that you shouldn’t focus on the thing you can’t control (because it’s useless). You should instead focus on things you can control.
Remember, you alone get to choose what matters and what doesn’t. The meaning of everything in your life has precisely the meaning you give it.
But when it comes to preparing for a recession, what can you control?
1) How much you spend (and therefore how much you save)
Getting to grips with your cost of living has two benefits:
a) You will develop the habit of spending less, and that habit will come in handy if your income takes a dip; and
b) You will be able to save more, and having savings helps you get through a recession.
The most important expenses to focus on are your fixed expenses, the ones you can’t quickly get out of if you needed to – like a mortgage or a car loan.
2) Your emergency fund
The bigger, the better – within limits. As a rule-of-thumb, an emergency fund equal of 3-to-6 months of living expenses is reasonable.
3) Your insurance coverage
What kind of personal insurance policies do you have? Do have enough to cover for things like an accident, critical illness or untimely death?
And are your protection policies tied to your job? If so, how do you feel about this?
4) Your investment portfolio
In general, the longer the investment time frame, the more aggressively you can afford to invest your money.
But if watching your investments lose half their value in just a few months is going to drive you crazy, then perhaps you need to invest more conservatively.
After all, the “best” asset allocation is the one you can actually stick to in the long run.
And if you think you might need the money in the next, say, 5-to-10 years, you should be thinking about how much money your portfolio could lose, and how that loss could directly impact your ability to do the things in life that you want to do.
Whilst this is only a basic list of things to take care of, they are all important parts of a comprehensive financial planning process – whether you DIY or work through it with a qualified financial planner.
Even if a global meltdown doesn’t happen, your own ‘personal recession’ could.
So, please, don’t fret about a possible recession. Instead, start checking off the list of things above to make yourself as “recession-proof” as possible.
Does the idea of a recession protection checklist sound good to you? If so, what else would you add to your own list?
Amyr Rocha Lima, CFP® is a partner at Holland Hahn & Wills LLP, a financial planning practice based in Kingston upon Thames. He specialises in working with successful professionals age 50+ helping them reduce taxes, invest smarter and retire on their terms.