How to Simply Explain Not To Be Afraid of the Stock Market in a Recession

These have been unsettled times for the stock market.  The bull market lasted for longer than a decade.  Then came Covid.  People on TV use the word “recession” a lot.  Some think it would be a good idea to take a “time out” from the stock market.  Let’s give this some more thought.

  1. 100% of your wealth is not invested in the stock market.  You own real estate.  Bonds too.  Your investment in stock is only a portion of your wealth.  It’s not like you were playing and in poker tournament and going “all in.”
  2. The stock market can turn on a dime.  You have seen this many times before.  You cannot consistently time the stock market.  You have seen the statistics tracking returns if you missed the best days in the market.
  3. Recessions often end quicker than expected.  The formal definition of a recession is a fall in GDP for two consecutive quarters.  This implies we are out of a recession when GDP rises again.  By the time a recession is officially declared, it might be close to being over.
  4. You are not alone.  The investor has a financial advisor.  They are often connected to a large firm or an umbrella organization with it’s own research department or access to quality research.  They have strategists.  Since you are a client, this is pretty close to unbiased advice because you are already a client, likely on a platform with asset based pricing.
  5. Not everything goes down as the same rate in a bear market.  Even if it is severe, every stock doesn’t decline the same amount as the averages.  Some sectors suffer less damage or even might rise.

What to Buy When Others Are Selling

Suppose we have a bear market.  Suppose the economy does go into a recession.  Suppose inflation stays high. If you want to stay committed to the stock market, where should you consider putting your money?

  1. Have you heard about TIPS?  The acronym stands for treasury Inflation Protected Securities.  These are government bonds with an interest rate and principal calculation combination that adjusts in line with inflation. 
  2. Counter cyclical stocks.  People drink more when times are tough.  They do more shopping in discount chains.  Certain businesses do better when the economy does worse.
  3. Non- cyclical stocks.  These are also known as defensive stocks.  During the Great Recession you might have heard someone say: “People are only buying food, fuel and pharmaceuticals.”  Consumer goods and utilities fit into this category too.  People still brush their teeth and keep the lights on.
  4. Dollar cost averaging.  This is a strategy that applies regardless of the stock, assuming it is good quality.  You have some favorite stocks.  You believe in their strategy and management.  You know their finances are solid.  If a rising tide lifts all boats, a falling tide lowers them too.  Quality suffers.  The key to dollar cost averaging is it’s opposite position to market timing.  Instead of guessing the optimal moment to buy, you are buying on a continuous basis with the same amount of money each time.  You might catch some highs, but you catch some lows too.
  5. Bond ladders.  The biggest problem with this strategy that it’s boring.  You buy bonds at varying maturities to give you the benefit of the higher rates available at the moment plus the benefit of a bond maturing soon if rates trend higher.
  6. Stocks that benefit from inflation.  Rents go up when inflation rises.  Rental property fits under the real estate category.  Firms with lots of rental properties might do well.  Inflation means raw materials will cost more.  Companies that make or extract those raw materials should do well.  This should include oil and gas firms, mining companies and agricultural firms, the folks that grow things.
  7. Defense industry stocks.  These stocks often fit into the category of defensive stocks.  The US government buys lots of fighter jets, ships and missiles.  These are often supplied under long-term contracts.  The companies keep producing and the government keeps writing check regardless of what the economy or stock market is doing.
  8. Certain sectors perform better than others.  The S&P 500 Index is composed of 11 sectors.  If the S&P is down almost 20% YTD (12/16/21) this does not mean all 11 sectors are down 11% each.  The energy sector might be up 54% and the Communications sector might be down 39%.   Stocks do not move in lockstep generally.

It seems to make sense to step away from the stock market when things are unsettled, but a good case can be made for staying invested, at least to some degree.

Related: How To Create a Sense of Urgency