The rapid spread of the coronavirus pandemic has many financial experts believing that a recession is coming soon. Although it’s impossible to predict when an economic downturn will take place, we know that every economy has a boom as well as a slump period. And the talks of recession had started well before the infection had started, so it’s best to be prepared.
While there is no doubt that recession hits the entire financial world and creates challenges for companies to survive, it is also equally problematic for the common man. Since most people have some or the other form of debt or mortgage to pay, survival during a downturn becomes hard, especially if there are mass lay-offs.
However, there are ways to weather the storm of recession if one is careful with their personal finances. Here are some ways to recession-proof your finances, including everyday habits that can be implemented beginning today:
How to recession-proof your finances
Create an emergency fund
Naturally, the first step while monitoring your financial health is to create an emergency fund. It would be best if you made it a habit to set aside some amount each month from your salary that can only be used in an emergency. Setting up a recurring deposit in your bank account keeps your funds liquid, and you can easily access them whenever needed. What’s more, this fund can help you during other emergencies as well.
Get rid of debt
Debt and mortgages make it harder to pay bills, and if you do lose your job during a recession, it becomes a matter of survival. Recessions also often lead to a tighter credit market, so you may find it difficult to refinance your debt if the industry isn’t healthy. The best thing is to avail high-interest consumer debt, like credit cards, in moderation. Further, keep the mortgage and car loan balances to a minimum. If you choose to take instant personal loans for any reason, make sure you pay them off timely. Loans and debts should be a last resort, and be ideally taken during difficult times, like recessions only.
Keep your credit score high
During a recession, your requirement for credit might go up and your credit score will become the single-most important thing to help you get approvals for a mortgage, low-salary personal loan, credit card, or another type of loan. Only those who have an excellent credit history and score will be able to get loans during a slump in the markets. Make sure that you keep paying your bills on time, as well as paying all EMI installments timely as well. By keeping your debt-to-available-credit ratio low, you will be able to keep your credit score high.
It is essential to monitor your daily expenses carefully to understand your cash flow. By tracking how your money is being spent, and by separating your discretionary expenses from your fixed costs, you can easily sustain even during a recession.
Understanding your expenses can help you temporarily cut back on high, but avoidable, expenditures during a recession.
Stick to your budget
Firstly, if you don’t have a monthly budget – create one. And then it is important to stick to it and not go overboard. This is particularly true when things aren’t looking good because living within your means every day is important in case there is a recession. If you do not have an upper limit to how much you are spending, you might find it tougher to hold back even when you don’t have the capacity to spend more.
For example, if you have are a two-income family with both you and your spouse earning, then try to manage all your expenses from one spouse’s income only. This will allow you to save a high amount each month, and create enough surplus to invest or add to your contingency fund. Furthermore, when times are bad, and even if one spouse gets laid off, you will be able to manage as you will be used to living on a single income already. Your saving habits may be affected by recession temporarily, but it won’t affect your day-to-day expenses.
Work towards having a second income
Even if you have a high-paying job, it is always advisable to have a second source of income that will generate an additional income for you. There are two ways to go about this. One, you start doing additional freelance projects or consultancy work on the sideline of your existing job.
This will help you earn more and also provide back-up support during recession; however, you will have to work extra hard to actively earn this income and also upgrade your skill constantly to meet the changing industry expectations.
Two, you can set up a passive source of income, like a rental income, or an investment with periodic returns. This will require you to allocate a large sum of capital in one go, and earn returns from it over a long time.
- Diversify your portfolio
If you have been making small investments over time, make sure that all your investments are not in one place. Diversifying your portfolio, in assets, real estate, liquid cash, fixed deposits, debt funds, etc. can help you ride out dips in the market and earn good returns.
Try to build a portfolio of investment pairs that are not correlated, as this will help you ride out any unexpected declines in the market. Even when one investment is down, you can balance it with a second investment.
Furthermore, while recession impacts almost all industries, it hits some harder than others, depending on the reason of its onset. So, if you diversify your portfolio, you can minimise your risk as well.
Check news and analysis before making big investment decisions
Update yourself on the volatile nature of the stock market and check historical trends to understand when is the right time to invest, hold or withdraw your money. If you are well-read, you can be prepared and confident to ride out any financial storms that may come during a recession. Remember, you have to be ready to lose some money in the short-term during a recession.
However, if you have some savings to spare, learn to find the right investments when the market is down. This will help you gain more when the market bounces back up. Don’t panic when the market is crashing; instead, pick up a few well-researched stocks at low prices, which could result in good returns in the long term.
Think long term
When you are making investments always think long term. In case there is a drop in the market that brings your investments down, you should be in a position to hold on to your investment without any pressure of selling. It is critical to remember that markets are cyclical with a bear as well as bull periods. In the long run, you will get plenty of opportunities to sell at a higher price. When the market is down, you can invest and wait for it to bounce back to sell. On the other hand, when you reach retirement age, it is prudent to invest in low risk and liquid accounts, which you can access anytime.
Identify your risk tolerance level
You should be realistic about your risk tolerance levels to avoid panic when recession sets in. Investments are supposed to give you a sense of financial security, not sleepless nights. So, it would be best if you made investments that are stable and not create a sense of panic.
In a lot of ways, recession might wipe off any monetary gains you may have accumulated over years. But, your choice of investment holds key on how much these investments will be impacted during a recession.
Build up your skills
Even if you land a great job, it is important to keep working on acquiring new skills to build up your resume. Don’t get complacent; rather work on making new contacts as well as learning new things. As per one estimate, more than 75 million jobs are at risk of becoming obsolete in the fast-evolving business world.
The only way to ensure that you’re prepared for such changes is by learning about new trends, tools, and technology. This will not only ensure that you remain employable, but also create value for your skills.
A recession could create havoc for your finances. But, if you are prepared, and regularly take small steps, your finances can withstand an economic downturn. It is important to get the right mix of assets and keep your debt levels low. Having an emergency fund, a strong credit score, as well as multiple sources of income, can help negate the effects of the recession. Living within your means is imperative.
Given the existing economic and political climate, a recession in the near future is most certainly inevitable but by carefully planning your income, finances, investments, and savings, you can come out with minimal challenges.
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