Be fearful when others are greedy, and greedy when others are fearfulWarren Buffet
Is a Recession coming in 2022? And what should I do to protect my investments? A recession occurs when the stock market faces 2 negative quarters in a row. And recent Q1 report showed that the US economy contracted by 1.7%. Market collapses usually occur without notice, frequently following a protracted bull market in which stock values have gradually increased. Panic selling by investors attempting to swiftly liquidate their positions to either limit their losses or fulfill a margin call is a hallmark of a stock market catastrophe.
The stock market seems to always just go up during 2020 and 2021, 2020 when the index plummeted by almost 30% it rebound back up gaining a total of 17%. Over the past 91 years, the S&P 500 has gone up and down each year. In fact, 27% of those years had negative results. On average, the stock market will produce a negative return once every 5 years. And for the past 3 years, the stock market has produced an explosive return of 31.5%, 18.4%, and 26.9%. So investors are eluding that we might be facing a recession in the market in 2022. With the Russia Ukraine war sterling up social unrest, global production decreasing and food shortages are on a rise. The economy looks like it will be heading into a steep recession.
Learning to prepare yourself for a recession is really important to protect against any dangerous downside that might lead to margin calls, lapsing mortgage payments, and bankruptcy. In this blog, we will be sharing some ways a stock market can crash, what to do if the market crash and how should you react when it happens.
What could cause a Recession
Two things that can create a stock market crash: are a sharp decline in stock prices and fear. A fast drop can be triggered by a number of factors, including the CEO selling business stock, a poor earnings call, or a forecast of a terrible quarter ahead. A good metric indicator to understand the fear level in the current market is the CNN fear and greed index. Which is commonly used to illustrate the day-to-day market sentiment for the stock market.
Generally, a stock market crash usually happens due to a macroeconomic change. This happens when a large issue regarding countries is being put into question such as pending war, nuclear threat, terrorism attack, or supply change disruption. Such scenarios happened such as the 2020 Covid-19 pandemic and the 2008 financial crisis in America.
Supply is also one large factor affecting macroeconomic changes. Earth only has a 3 months supply of food. Global hunger had already been steadily rising for the past couple of years due to the COVID pandemic. Now its confluence of events here in 2022 threatens to create a true global nightmare.
Fear, Uncertainty, and Doubt
FUD stands for fear, uncertainty, and doubt. During the pandemic, the term FUD was coined because news reports at the time contained waves of doubt that might be triggered by a political leader, a company’s CEO, or the most well-known federal reserve-altering policy. In the short term, this leads the stock market to be extremely volatile.
In every booming economy, people become too greedy in their investments. They would either be taking on too much debt, leveraging too much on their portfolio, or hanging too close to being margin called. These investors are mainly the cause of the stock crash after it has dipped because they weren’t able to pay their debt in time. We saw this happen during the dot.com bubble where tech stock crashed hard losing 90% of its value. Amazon was down 96% during that time. We also see this in the 2008 real estate crash where investors were leveraging too much on real estate without having the money to pay off the mortgage.
How to prepare for a Recession
The question on everyone’s mind after facing any market crash is how can I better prepare myself for the next market crash. That is simple yet really hard to commit to achieving because the stock market is an emotional roller coaster. It feeds on the day-to-day emotion of the people’s sentiments.
At every market crash, do check what level of financial freedom you are in. This is really important as market crashes are the best time to make the most amount of money when the market recovers. If you aren’t financially free yet, take this buying opportunity to build income and invest more heavily. Warren Buffet once said that he wishes to see more stock market crashes because these are huge buying opportunities missed out by most investors who are too scared to invest.
Remove High leverage and Margin Position
As mentioned previously the danger of high leverage and margin. During back economic times, stocks and debt leverage can change rapidly. Yes, taking leverage and marginal position magnify gains when the stock goes up, but it also magnifies losses as well.
Reserve more cash for Buying power
In 2022, Berkshire Hathaway, Warren Buffet’s company said it holds $144billion dollars in cash. In the letter, Buffett claims that Berkshire Hathaway always has cash on hand: he and his partner, Charlie Munger, have pledged to keep at least $30 billion in reserve at all times. Berkshire Hathaway is “financially impregnable and never dependent on the kindness of strangers (or even friends),” Buffett told his owners.
“Both of us enjoy sleeping well,” he said, “and we want our creditors, insurance claims, and you to do the same.”
Having a cash reserve is extremely important during a recession when money is scarce, since buying possibilities increase. It is critical to remain patient in order to reap the rewards.
Why you should look forward and How to Gain Huge Profit during a Recession
It’s strange how the stock market reacts to pricing in the other direction. People don’t buy when stock prices fall, and they don’t appreciate being stuck with them when they’re on sale. That’s because “Low can get lower” is a popular adage. It is quite difficult to keep emotions out of the stock market, which is why every investor must have a strong conviction in the stock and understand how to manage their emotions in such circumstances.
A good habit for an average investor to know is to learn the art of DCA (Dollar-cost averaging). Dollar-cost averaging can assist in removing emotion from investment. It binds you to invest the same (or nearly the same) amount regardless of market fluctuations, potentially minimizing the temptation to time the market. Dollar-cost averaging allows you to invest your money in equal amounts at regular times, independent of market fluctuations.
Hedging your Portfolio
There is a saying, Poor investor loses money when the stock goes up or down. Average investors only win when the stock market goes up. And the rich investor wins both ways. The wealthy investor may profit in both directions because they understand how to safeguard and hedge their assets against potential losses. This is why the wealthy utilize options to diversify their portfolio at any moment.
Where to put money before a Recession
The ability to manage one’s finances is what separates the wealthy from the impoverished. The wealthy understand that there is no better moment to acquire assets than when no one else is. It’s a perfect opportunity to figure out if investors are overly concentrated in their investments or if they are well-diversified. Household products and other necessities are also considered recession-resistant investments. It would be crazy to restructure a whole portfolio in this direction, but adding a utilities or consumer staples index fund or exchange-traded fund to any investment portfolio can provide stability even if the economy turns fragile.
Mature Dividend-paying stock
Choose established, large-cap companies with strong balance sheets and cash flows if you’re going to invest in shares during a slump. These businesses are not only better positioned to weather economic downturns than smaller businesses with insufficient cash flow, but they are also more likely to pay dividends.
Dividends serve several functions for investors. For starters, if a firm has a lengthy history of paying and rising dividends, you may be certain that it is financially solid and can withstand most economic conditions. Second, dividends serve as a return buffer. Even if stock prices fall, you will still earn a return on your investment. Dividend equities outperform non-dividend stocks during market downturns for these reasons.
Build cash to put in the Bank
During a recession, cash becomes king. Whoever has the most cash would be able to leverage their buying power. Knowing that a recession typically lasts at least 2 quarters, building up individual cash reserves can be crucial to making good stock purchases later.
Most 99% of investors, don’t touch your portfolio! If you’re a long-term investor, the short-term recession shouldn’t be the primary motivator for selling your most firmly held investment. Consider a 5- to 10-year investing horizon, and if the stock market is bugging you, take a stroll instead of staring at the screen all day.
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