The world wasn't prepared for 2020: A brand-new virus spread quickly around the world forcing countries to close borders in an effort to stop the global pandemic. Closure of businesses coupled with the slow reopening and a changed way of operating resulted in millions of people being unemployed. By mid-May, over 100,000 small businesses closed for good; by the end of July, nearly 30 million Americans were jobless.
And it's not over yet.
The pandemic brought the United States into an economic recession, according to the National Bureau of Economic Research. The last time the country witnessed such harsh numbers, was during the Great Recession in 2007 and it lasted over a year-and-a-half. If you haven't started preparing for a recession that could last even longer, now is the time.
In this Guide:
What Is a Recession
A recession is a period of temporary and significant economic downturn. During this time trade and industrial activity is reduced. Stock markets drop. Unemployment spikes. And the housing market slows.
After the Great Recession, which began in 2007 and ended in 2009, it took two more years for the economy to bounce back, which means the true effects of the recession lasted nearly five years.
What is unique about this recession is that it is not tied to business and economic reasons but a pandemic. Economists are uncertain about the future but what they do know are the similarities between past recessions. That includes the shrinking value of wages that cannot keep pace with higher inflation. Interest rates are driving consumers to spend less. Meanwhile, real estate, stocks, and other investments lose value. As spending decreases, companies make their own cutbacks to keep up. This leads to more job loss.
Does this sound like a mess? It certainly is.
Are your finances able to withstand a five-year rollercoaster of uncertainty? Here's how to prepare for a recession.
How to Prepare Your Personal Finances for a Recession
Ideally, your finances and investments were already strong at the start of COVID-19. Since then, though, many people saw 401(k)s, stocks, and other investments drastically slashed. While you can choose to hire a financial advisor using platforms such as Paladin Registry and get professional guidance, there are ways to prepare yourself, to weather the ups and downs better as you maneuver through this uncharted ride.
1. Pay Down Debt
While it is important to spend less during a recession, it is very important to pay down any debts you currently have. Paying high interest eats into your precious income that needs to be preserved during this time.
Begin by paying off credit card debt as it has the highest interest. Then target auto loans, home equity loans, and other debt that can be paid down quickly. Consolidate debt into one lower-interest loan or credit cards that offer 0% introductory annual percentage rates. That way you put your money toward the debt and not the interest.
2. Increase Your Savings
As your debt diminishes, use that extra money to boost your savings.
- Emergency Funds — Financial experts say you should have an emergency fund with enough money to cover three to six months of living expenses. If you don't have one, work toward building one. When the Great Recession hit, seven million people were unemployed for more than six months.
- Open Savings Account — Although interest rates on debt are higher than savings interest, begin putting money aside even before your debts are gone. That way, you won't need to rely on credit cards to help you manage expenses. We recommend opening a savings account that has a high-interest yield to give you the best leg up in stashing money.
- Side Hustle — Consider finding a side hustle and putting that extra cash toward your savings. Even if you feel secure in your job, having the extra money will help you feel safer during the recession.
3. Budget and Live Within Your Means
By now you should be familiar with the 50-30-20 rule: No more than 50% of your income should be devoted to your housing, utilities, and food (the essentials); at least 20% of your income should go into savings, and no more than 30% of your income should be discretionary spending.
4. Cut Back on Expenses
Saving money is most important during a recession. As you review your spending, look at where you can cut back. You probably already trimmed your entertainment and travel costs due to COVID-19 restrictions. But perhaps you're dining out more or having food delivered regularly. And if Amazon and UPS keep making stops at your door, find ways to reduce these expenses. Then put that money into your savings and debt reduction.
If you receive bonuses or stimulus checks, put them into savings and save treating yourself for better times.
5. Focus on the Long Haul and Diversify
Many investors panic when the market starts to dip. Stock prices plummeted at the start of the COVID-19 pandemic. This caused many investors to make the emotional decision to bail, giving up retirement funds while worrying about the recession.
But experienced investors know that when prices drop, it's time to grab stocks. The unsteady market may be disconcerting but stick with it. The market improved by summer.
Buy while stocks are cheap, look for the companies that have longevity, and have made it through past recessions. These companies typically have a steady business model and will pivot and find their way out of the downward spiral newer companies may struggle with. Fixed-income bonds are good choices right now, as is investing in gold and silver.
You may be surprised that we recommend real estate when the country is in an economic downturn, but as house values drop, long-term investors can benefit from buying real estate that will bounce back with the economy and pay off big in the years to come.
The key to investing during this time is to diversify! Invest in a variety of assets to weather this economic storm.
6. Understand Your Tolerance
Even with all of these steps in place, speaking to a certified financial planner or planning service like Facet Wealth could be a good idea. A financial planner helps you find missed savings opportunities and identify areas where you can cut back. And they help you understand how much risk you can afford right now, especially in diversifying your portfolio.
It makes sense for some people to buy stocks. But others might hold on to their savings. A financial advisor helps you figure out which financial strategy is best for you.
7. Invest in Yourself
As the unemployment rate rises, don't forget to invest in yourself by continuing to build your skills and training. Take additional classes and boost your resume. This gives you a leg up over the competition.
If you haven't obtained a college degree, consider working on one. The PEW Charitable Trusts found that adults with associate degrees were 16% more likely to be employed than high school graduates. And those with bachelor's degrees are 25% more likely to have a job. The same study found job loss for high school graduates during a recession was twice that of college graduates.
And while some companies are furloughing or laying off employees, there are still companies thriving and looking for new hires. Landing a higher-paying job can boost your savings and retirement, so continue to search for new opportunities.
Always Prepare for the Unexpected
As the saying goes, the only certainties in life are death and taxes. No one could have seen COVID-19 coming, but when any recession hits, it usually comes unexpectedly.
In November 2019 — before COVID — a survey of nearly 2,800 Americans found 65% felt a recession was likely to hit within the next year. Yet a similar survey conducted just a month prior found that two in five people were not prepared for a recession.
Understanding a recession may come yet not preparing for one is akin to knowing winter will bring snow and not having a shovel or boots.
Surviving a recession depends on how much you prepare for a recession. These steps for preparing for a recession should be practiced at all times so you are always ready to face the unexpected.