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Investing During a Recession

By Colin Dodds · September 07, 2021 · 5 minute read

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Investing During a Recession

Investing during a recession can be daunting for many investors, but a few guardrails can help you weather a downturn — and maybe even make the best of it.

While no one knows exactly and when a down market will turn positive, history has shown that it typically does. The last major recession, coming after the 2008 financial crisis, gave way to an 11-year bull market that put a lot of money in investors’ pockets. Between March 9, 2009 and March 5, 2020, the S&P 500 delivered a cumulative return of 462.1%, according to FactSet.

In other words, just because your investments may be trending downward, don’t let fear lead you to make impulsive decisions like pulling your money out of the market and locking in losses. Read on to learn why staying the course can have an upside, and sometimes entering the market even in the depths of a downturn might offer some long-term rewards.

What You Need to Know About Investing in a Recession

A recession is often defined as a period of two consecutive quarters of decline in the nation’s real Gross Domestic Product (GDP) — the inflation-adjusted value of all goods and services produced in the United States. However, the National Bureau of Economic Research, which officially declares recessions, now takes a broader view — including indicators like wholesale-retail sales, industrial production, employment, and real income.

The point is that the markets tend to price in those indicators, so much so that you may see the prices of stocks start to drop (and bond prices start to rise) even before a recession is officially called. That stock volatility can give investors the jitters — and that emotional state that can be contagious in a way.

Behavioral finance experts have dubbed this tendency “herd mentality” — which means that you’re more likely to behave in a similar way to a larger group than you realize. Combine that behavioral bias with another common one — loss aversion — and you can see how emotions can lead some investors to make impulsive choices in a moment of panic or doubt.

The good news (there is some good news here): History shows that most recessions don’t last as long as you might think — about 11 months, according to the National Bureau of Economic Research (NBER). So while an economic downturn can be scary while it lasts, it’s likely that time is on your side.

By staying the course and sticking with your investment strategy (and not yielding to emotion), the market recovery could help you recoup any losses and possibly see some gains — especially if you buy the dip (when prices are low). As investors witnessed firsthand during the market swoon that accompanied the arrival of the pandemic in March of 2020, sometimes declines don’t last very long.

💡 Need more recession help? Check out our recession survival guide.

How to Make Money Investing in a Recession

To that end, it’s worth remembering there are some investments that do better than others during recessions. For starters, recessions are bad news for highly leveraged, cyclical, and speculative companies. These types of companies may not have the resources to withstand a rocky market.

By contrast, the companies that have traditionally survived and even outperformed during a downturn are companies with very little debt and strong cash flow. If those companies are in traditionally recession-resistant sectors, like basic consumer goods, utilities, defense contractors, and discount retailers, they may deserve closer consideration.

Recommended: What Types of Stocks Do Well During Volatility?

Some investors might also seek out even more defensive positions during a recession, by buying real estate, precious metals (e.g. gold), or trading for established, dividend-paying stocks.

Bear in mind that every recession impacts different sectors in different ways. During the Great Recession of 2008-09, financial companies suffered — because it was a financial crisis. In 2020, biotech companies tended to thrive, but investments in energy companies have been hit harder owing to fluctuating oil prices. As an investor, you have to do the math on where the risks and opportunities lie during a recession.

Stick to Your Investment Strategy During a Recession

During a recession, it’s important to remember two key tenets that will help you stick to your investing strategy. The first is: While markets change, your goals don’t. The second is: Paper losses aren’t real until you cash out.

The first refers to the fact that investors go into the market because they want to achieve certain financial goals. Those goals are often years or decades in the future. But as noted above, the typically shorter-term nature of a recession may not ultimately impact those longer-term financial plans.

The second tenet is a caveat for the many investors who watch their investments — even their long-term ones — far too closely. While markets can decline, and account balances can fall, those losses aren’t real until an investor sells their investments. If you wait, it’s possible you’ll see some of those paper losses regain their value.

Key Recession Concept #1: Dollar-Cost Averaging

While it’s important for investors to stay true to their long-term strategy during a recession, what about investing new money? This is where the concept of dollar-cost averaging is an important one for investors to keep in mind.

Dollar-cost averaging, simply put, is a systematic way of investing a fixed amount of money on a regular basis. It’s often used to describe the way most people invest, on a paycheck-by-paycheck basis, through workplace 401(k) and 403(b) plans.

This approach spreads the cost basis out over a long period of time, and a wide range of prices. By doing so, it provides a degree of insulation against market fluctuations. During times of rapidly rising share prices, the investor will have a higher cost basis than he or she otherwise would have had. During times of collapsing stock prices, the investor will have a lower cost basis than he or she otherwise would have had.

Taken altogether, then, dollar-cost averaging can help you pay less for your investments on average over time, and help to improve long-term returns.

Key Recession Concept #2: Rebalancing

Investors try to gauge how close or far they are from their goals, because your time horizon determines how you invest. For instance, a younger investor may have a portfolio that’s heavier in growth stocks, and lighter when it comes to bonds and cash.

For an investor who’s nearing a major goal, like retirement, the priority may be the safety and security or investments like high-quality (but lower-yielding) bonds. Over time, investors need to rebalance the allocation of different asset classes in their portfolio. A younger investor may start out with an allocation of, say, 70% stocks and 30% bonds and cash. As you near retirement, that equity allocation would likely shift toward 50% stocks or even lower.

These changes happen over the life of every investor. But the good news for some investors is that a recession can act as a chance to look at their portfolios, and to rebalance them.

A recession can also be a chance to sell out of a mix of investments, owing to tax considerations. By selling stocks or mutual funds that have appreciated alongside ones that have lost value, investors can take advantage of tax-loss harvesting. This strategy allows investors to use investments that have declined in value to offset investment gains and potentially reduce their annual tax bill.

When an investor wants to reduce capital gains taxes they owe on investments they’ve sold, tax-loss harvesting can allow an investor to deduct $3,000 in losses per year. As such, the strategy can be the silver lining on investments that just didn’t work out.

A Recession May Offer Investors New Opportunities

Investing during a recession is really what you make of it. While market volatility can spark investor worries, it’s possible to manage your emotions, stay in control of your investment strategy, and possibly come out ahead.

Certainly, you could get started investing today by opening an account with SoFi Invest®, so that you lay the groundwork for your financial plans sooner rather than later. Then you could be in a better position to take advantage of new opportunities, if and when another recession comes along.

SoFi Invest offers active online stock trading that allows you to choose your stocks and ETFs without paying SoFi commissions. SoFi Invest also offers an automated investing solution that invests your money for you based on your goals and risk, without charging a SoFi management fee.

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