How to prepare for a possible recession

The next Bank of Canada (BoC) rate hike, scheduled for September 7, 2022, could potentially trigger a recession.

Blazing inflation has been the story of 2022 and the BoC is stuck between a rock and a hard place – trying to control inflation by raising interest rates, which then carries the high risk of an economic downturn.

While there’s a chance we won’t go into a recession and the BoC is still hoping for a soft landing, it’s best to be prepared.

WHAT IS A RECESSION?

When many people think of a recession, they may recall the 2008 global financial crisis and the chaos that followed. However, recessions are not always so dramatic and can vary in severity.

There are many different definitions of what a recession is, but the National Bureau of Economic Research (NBER) gives a simple one:

A recession involves a significant drop in economic activity that spreads across the economy and lasts more than a few months. It can affect several aspects of the economy, such as B. real GDP, income, industrial production, employment, retail sales and industrial production.

GDP is an important indicator of where the economy is potentially headed. Recent statistics show that Canada’s GDP is close to a standstill and has moved very little recently (0% growth between April 2022 and May 2022).

HOW TO PREPARE FOR A RECESSION

Recessions aren’t just bad for businesses; they are bad for everyone. During a recession, it’s common for rising costs to go hand in hand with job cuts, wage cuts, stock market slumps and reduced income security.

It’s a good idea to start preparing for a recession now so you don’t get caught off guard. Here are some practical tips you can use to ensure you are prepared for the upcoming market downturn.

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  1. Evaluate your current investments

The main question to ask yourself when looking at your investments is, “What is the level of risk I am exposed to?” Depending on where your assets are held, try to get an overall picture of what you have and what your potential losses could be. You may need to review your own financial reports, contact your financial advisor, or evaluate your retirement plan at work.

This will have a lot of variation between different people. For example, if you’re 100% invested in Canadian stocks, look at worst-case scenarios, such as during the 2008 financial crisis when the TSX index plummeted 35%.

The next question to ask yourself is, “Am I willing to take that risk?” If the answer to that is no, it means your risk tolerance may not be right for your investments and you may be considering an adjustment . Some risk mitigation strategies invest more in fixed income, cash, or stocks in more stable sectors (e.g., utilities).

If you are unsure of your current risk appetite, you should fill out an investor questionnaire.

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  2. Reduce your monthly expenses

When a recession hits, the first thing companies do is reduce their overhead costs. You can cut funding for departments, put pay increases on hold, and avoid unnecessary maintenance.

Consider doing the same at home.

First, sit down and look at your monthly budget. It helps keep a complete overview of all your family’s expenses, including rent, mortgage, utilities, groceries, fuel, and leisure.

There’s a pretty good chance you’ll find some areas to cut back on your spending. Evaluate the three big expenses in your budget: housing, transportation and food. See if there is a way to narrow any of these areas.

During a recession, you are more likely to lose your job. If you own a business, you may find that fewer customers are renewing their contracts or fewer buyers are buying your products. This can take a toll on your personal finances and make it difficult to pay bills.

In these times it is important to have an emergency fund. Hope you don’t have to use it. If the worst happens, at least they have it there to help you get through unscathed.

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  3. Build on your most valuable skills

During a recession, it’s important to continue creating value. If you are an employee, try to improve your skills and become the best at what you do so that when rounds of layoffs arise, you are the least likely to be fired. If you run a small business, your focus is on being the best in your industry and providing exceptional service to your customers.

When money is tight, people and businesses will continue to invest in people and products that add value to them.

FINAL THOUGHTS

There’s no way to predict exactly how long a recession will last, but we can look at history to get a rough idea. Canada has experienced only five recessions since 1970, usually lasting between three and nine months. Unfortunately, none of us can do anything to prevent a recession. By preparing ahead of time, we can limit the ability of a recession to harm us financially.

If you manage your money wisely, increase its value, save where you can, and eliminate unnecessary spending, you will be able to survive a recession and possibly even thrive.

Christopher Liew is a CFA charterholder and former financial advisor. He writes personal finance tips for thousands of Canadian readers on his Wealth Awesome website.

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