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“We all understand that markets are going through cycles and the recession is part of the cycle we may be facing,” said certified financial planner Elliott Herman, a partner at PRW Wealth Management in Quincy, Massachusetts.
However, since no one can predict if and when a decline will occur, he insists that customers be proactive with asset allocation.
Diversify your portfolio
Diversification is crucial in preparing for a possible economic recession, said Anthony Watson, CFP and founder and president of Thrive Retirement Specialists in Dearborn, Michigan.
You can eliminate company-specific risk by choosing funds rather than individual stocks, because you are less likely to feel that a company goes bankrupt in an exchange-traded fund than 4,000 others, he said.
Value stocks tend to outperform growth stocks that are in recession.
Anthony Watson
Founder and President of Thrive Retirement Specialists
It suggests checking your combination of growth stocks, which are usually expected to provide a return above average, and value stocks, which are usually trading for less than the value of the asset.
“Stocks tend to outperform growth stocks that are in recession,” Watson said.
International exposure is also important, and many investors use 100% of local assets by default to distribute shares, he added. While the US Federal Reserve is struggling aggressively with inflation, other central bank strategies may trigger other growth trajectories.
Distribution of bonds
As market interest rates and bond prices tend to move in opposite directions, the Fed’s rise in interest rates has led to a decline in the value of bonds. The 10-year reference treasury, which rises as bond prices fall, reached 3.1% on Thursday, the highest yield since 2018.
But despite falling prices, bonds are still a key part of your portfolio, Watson said. If stocks collapse in a recession, interest rates may also fall, allowing bond prices to recover, which could offset stock losses.
“Over time, this negative correlation tends to manifest itself,” he said. “It’s not necessarily day to day.”
Counselors also take into account the duration, which measures the sensitivity of the bond to changes in interest rates based on the coupon, the time to maturity and the yield paid throughout the term. In general, the longer the life of the bond, the more likely it is to be affected by rising interest rates.
“Higher-yielding bonds with shorter maturities are now attractive and we have maintained our fixed income in this area,” added Herman of PRW Wealth Management.
Cash reserves
Against the background of high inflation and low profitability of savings accounts, it becomes less attractive to keep cash. However, retirees still need a cash buffer to avoid what is known as a “return on consistency” risk.
You need to be careful when selling assets and taking withdrawals, as this can cause long-term damage to your portfolio. “This is how you fall victim to the negative sequence of returns that will eat your retirement alive,” Watson said.
However, retirees can avoid knocking their nests during periods of deep losses with a significant cash buffer and access to a line of credit for equity, he added.
Of course, the exact amount needed may depend on monthly expenses and other sources of income, such as social security or a pension.
From 1945 to 2009, the average recession lasted 11 months, according to the National Bureau of Economic Research, the official document of economic cycles. But there is no guarantee that the future decline will not continue.
Cash reserves are also important for investors in the “accumulation phase” with a longer pre-retirement period, said Catherine Vallega, a CFP and wealth consultant at Green Bee Advisory in Winchester, Massachusetts.
I tend to be more conservative than many because I’ve seen three to six months in emergency spending and I don’t think that’s enough.
Catherine Valega
Wealth Consultant at Green Bee Advisory
“People really need to make sure they have enough emergency savings,” she said, offering 12 to 24 months of savings costs to prepare for potential cuts.
“I tend to be more conservative than many people because I’ve seen three to six months in emergency spending and I don’t think that’s enough.
With additional savings, there is more time to strategize your next career move after losing your job, instead of feeling pressured to accept your first job offer to cover your bills.
“If you have enough liquid savings for emergencies, you get more opportunities,” she said.
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