Between rising interest rates, a slightly rocky housing market, and some weak economic indicators south of the border, Canada could be at risk of entering a recession in the not-too distant future, according to some financial forecasters.
A recession is typically defined as two consecutive quarters of negative economic growth but can sometimes be shorter, such as the brief economic shock at the outset of the COVID-19 pandemic. No one knows how long a recession will last, or how quickly the economy will recover.
‘Recession’ tends to be a dirty word in financial circles and elsewhere because these downturns lead to job losses and high unemployment, diminished consumer demand, business failures, and bankruptcies. Another common outcome of recessions is a decline in stock market values.
In the face of such broad economic pain and uncertainty, the idea of investing in a recession might seem unwise, even reckless. The truth, however, is that investing during a recession can still pay off. Investors who are in a stable financial position and have a suitably long-time horizon shouldn’t be deterred by a short-term downtown, even one that lasts a couple of years, and can often find good value by continuing to invest in equities even when the market is in decline.
Assess your situation before deciding whether to invest during a recession
As with most financial matters, there’s no one-size-fits-all answer to the question of whether to keep investing during a recession. The best response comes by making an honest assessment of your own financial situation.
For starters, do you have an emergency fund, a stockpile of cash equivalent to three to six months of salary? If not, you might want to prioritize that during a period of financial instability. Likewise, if you have high-interest debts, such as credit card debt or loan debt, you might be better off addressing those before directing too much money towards potentially risky investments.
Another important consideration is your time horizon, how long you plan to invest before accessing any of your savings. If it’s at least seven years, that’s probably long enough for the economy, and your investments, to rebound and recover. If you plan on needing your money sooner, there’s no guarantee it will have grown much, if at all, making investing a riskier proposition.
Look for value opportunities amid the decline
Investing during a recession can provide an opportunity to find value when stocks in reputable, reliable companies are available at a reduced price. Of course, some market bargains are too good to be true, with once-strong businesses trading at steeply discounted prices while teetering on the brink of bankruptcy. Be judicious about what to invest in, but look for chances to increase the buying power of your investment purchase by picking up a low-cost stake in a favourite stock, or one with a solid track record. Alternatively, investing in index funds can diminish your exposure to risk while still providing opportunities for value.
Instead of trying to time the bottom, rely on dollar cost averaging
As everyone knows, a basic rule of successful investing is to buy low and sell high. With that thought in mind, you might be tempted to try and hoard cash during a recession, waiting to invest as much as you can when prices drop to their lowest point. The problem is, no one knows when that will be, and anyone who says differently is simply offering a best guess.
Rather than spending months waiting to pounce when prices are perfect, a smarter approach is to rely on dollar cost averaging, which means investing consistent amounts at regular intervals and making the best of the results. With dollar cost averaging, you’ll end up buying fewer shares when prices are high and buying more when prices are low.
Don’t sweat market declines, stay cool, and stick to the plan
Whether you’re investing in the midst of a deep recession, or at the height of a market boom, one thing you won’t want to do is get overly emotional about your investments. Checking their performance too frequently can stoke feelings of fear and panic when values are declining, and some investors struggle to resist the urge to sell, which simply locks in losses.
Panic-driven decisions are seldom smart and well-reasoned, so keep your wits about you, stay strong in the face of uncertainty and remember that you’re in this for the long haul, not just days and weeks. Stick with the plan in good times and bad, and you’re likely to end up seeing gains.
