Economic downturns are an inevitable aspect of the ebb and flow of market economies. These downturns, however, can deepen and become recessions that have painful consequences for business owners and investors.
There are strategies to protect your finances against the turmoil of recessions. Although there’s no such thing as a recession-proof investment, you can focus on certain types of assets with more resilience to the volatility of a contracting economy. Learn more about some of the strategies you can use to minimize losses.
What is a recession?
A recession is an economic term that refers to a significant decline in economic activity over a specific period of time. Recessions can last anywhere from a few months to several years, and their severity is reflected by the decline in gross domestic product, a broad measure of a nation’s economic output.
A wide variety of factors can cause or contribute to an economic downturn, including financial crises and bank failures, supply chain disruptions, rising inflation, and higher interest rates. The fallout from recessions can involve rising unemployment, a declining stock market, reduced economic activity, and lower consumer spending.
Ways to protect your finances during a recession
- Cut living expenses
- Build an emergency fund
- Develop new skills
- Speak with a financial adviser
- Create passive income sources
- Start a business
Recessions can harm your living standards and lower your income, whether you’re an entrepreneur, a working professional, or an investor. Recessions can also push you to reexamine your finances, develop passive income streams, and consult financial advisers to make sure your assets are safe.
Cut living expenses
One way to tighten your belt during a recession is by reassessing your living expenses. If you haven’t already, make a budget and stick to it. Searching for cheaper car insurance, canceling unnecessary subscriptions, and eating out less can help reduce spending.
Build an emergency fund
Many people put cash into savings accounts during non-recessionary periods to prepare for when a recession hits. Having an emergency fund can give you more freedom to wait out recessions without having to liquidate your assets to raise cash. Many financial experts recommend having three to six months of living expenses in reserve.
Develop new skills
A recession can damage the employment market, leading to job losses across many industries. While it can be hard not to panic if your livelihood is in jeopardy, you can spend your time during a recession by developing new skills, such as coding, writing, or managing media. Those who own their own business can focus on ways to improve their marketing campaigns and strategies, which can make their businesses more efficient, even with a downturn in the market.
Speak with a financial adviser
A financial adviser can offer their expertise to help you reconfigure your investment portfolio during recessions. Depending on your interests—whether that’s investing in less volatile bonds or protecting your personal and financial assets—a financial adviser can guide you on the steps you need to take.
Create passive income sources
Another way people can make money during recessions is by figuring out ways to increase their personal income through passive sources like dividends, interest, and income from renting out unused space, property, or goods. Passive income streams can consistently provide payouts throughout recessions, often with minimal effort.
Start a business
On an episode of the Shopify Masters podcast, entrepreneur Ely Khakshouri explains how starting his outdoor gear company, Retrospec, in 2009 in the midst of a financial crisis ended up proving to be advantageous. “Folks had time for us,” he says. “Other companies were looking for opportunities to grow and to make up for lost business.” The recession, he says, “created an environment that was conducive to starting a business.”
Because Retrospec started out as an urban bike company, launching it during a recession—a time when consumers were looking for affordable modes of transportation—ended up paving the way for success. With insight into both the causes of a recession and consumers’ reactions to it, entrepreneurs can capitalize on shifting trends to create profitable businesses.
How investors handle recessions
Investors can handle their investment accounts during recessions in a variety of ways. Here are some of the more common investing strategies investors use to minimize losses during periods of economic decline.
Consumer staples are essential products and services that people continue paying for even during recessions. For example, food and beverages, health care services, and personal hygiene products like toilet paper are all consumer staples.
Consumer staples can better withstand economic downturns than nonessential and discretionary products and services. During economic slumps, people may choose to invest in companies that produce consumer staples in the expectation that their profits will weather a slowdown.
Bonds are fixed-income investments that governments, corporations, and state agencies issue when they want to raise money. When an investor buys a bond, they’re giving the issuer a loan and expect to receive income from interest payments in return. Most bonds pay interest at a set rate until they reach full maturity and the issuer must repay the original investment, known as principal, back to investors.
Generally, a bond that matures in four years or less is considered a short-term bond. Medium- or intermediate-term bonds are those that mature in four to 10 years, and long-term bonds have a maturity period that is greater than 10 years. A common long-term instrument is a 30-year US Treasury bond.
Although the value and returns of bonds can fluctuate along with changing economic conditions, bonds are long-term investments that tend to perform better than stocks during economic slowdowns or recessions. Investors with a lower risk tolerance can purchase bonds to diversify their portfolios.
Mutual funds are professionally managed investment funds that pool money from many investors for purchasing securities and selling shares in the fund to the public on stock exchanges. Mutual funds are a popular investment option.
The managers who run mutual funds can organize the investment portfolio to hold a mix of stocks, bonds, and other securities. Some people turn to mutual funds during recessions because of their inherent diversification and professional management.
Mutual funds use a wide array of strategies to achieve specific goals for their investors. During economic downturns or recessions, many investors turn to funds that focus on the consumer staples sector or large-cap companies (companies with a stock market value of $10 billion or more) that tend to generate more stable returns than small-cap companies.
Although the stock market typically declines during recessions, investors can mitigate losses by buying stock in companies that pay good dividends. Dividend companies make quarterly payments to qualified shareholders, using cash accumulated in retained earnings.
A company’s board of directors determines the timing and the size of the dividend payment. The amount paid, when measured in percentage terms (on an annual basis) relative to the current share price, is known as the dividend yield. For example, if a company’s share price is $40 and the board decides on a quarterly dividend payment of 25¢ a share—$1 a year—the yield works out to 2.5%. In other words, the yield is determined by dividing the total dividend payout during a year by the share price. Although dividends are not guaranteed, dividend stocks can provide investors with cash payouts, even during recessions.
How to make money in a recession FAQ
What businesses are profitable in a recession?
Many investors turn to stocks in companies that sell consumer staples like health care, food and beverages, and personal hygiene products. These businesses typically remain profitable during recessions and their share prices tend to better resist stock market sell-offs.
How do you thrive financially in recession?
Some strategies to weather recessions include reducing living expenses, dipping into emergency funds, and developing passive income sources. You can also hone your skills, network, and start a new business.
Where is your money the safest during a recession?
There is no recession-proof strategy for keeping investments safe during recessions. However, savings accounts will help with potential income loss, and investments in bonds and consumer staple stocks can often help limit your losses and may even record gains.