Over the past few years, the Federal Reserve has faced the challenging task of managing the economy to combat high inflation without causing a recession. While the efforts so far have been successful, recent economic indicators suggest potential areas of concern and the possibility of a less-than-ideal economic landing.
If a recession does occur, it’s important to be mindful of your investments. Here are some types of investments to steer clear of during a recession.
Predicting and navigating recessions can be complex. Some investments that seem safe under normal circumstances may actually pose higher risks during an economic downturn.
1. High-yield bonds
While it may be tempting to shift from stocks to bonds during a recession, high-yield bonds can be particularly risky. These bonds, which have low credit ratings, are more vulnerable to market fluctuations and economic downturns. Companies that issue high-yield bonds are often smaller, heavily indebted, and of lower quality, making them more likely to face financial challenges during uncertain times.
2. Stocks of highly leveraged companies
Companies burdened with high levels of debt should be avoided during a recession. These companies are more likely to see their stock prices decline as economic conditions worsen. If a highly indebted company struggles to repay its debts due to decreased demand and economic slowdown, it may even face bankruptcy. While such companies may present investment opportunities in the future, it’s best to steer clear of them during challenging times.
3. Consumer discretionary companies
Consumer discretionary stocks, such as those of companies like Tesla and travel companies, are more sensitive to economic cycles and consumer sentiment. These companies offer goods and services that are considered non-essential, making them susceptible to reduced consumer spending during a recession.
4. Other speculative assets
Speculative assets, including penny stocks and companies with limited earnings, are high-risk investments that may not fare well during a recession. Companies that rely on cheap debt to finance their operations could struggle to maintain growth and profitability in a slowing economy, leading to potential losses for investors. Similarly, cryptocurrencies like Bitcoin, which are known for their volatility, may experience significant declines during economic downturns.
Strategies for Investing During a Recession
While it’s important to stay invested during a recession, the key lies in choosing the right investments. Focus on companies with strong balance sheets, high-quality fixed income assets like Treasuries, and investment-grade bonds. These investments provide stability and income, helping to weather the storm of a downturn.
According to Sid Vaidya, U.S. chief investment strategist at TD Wealth, maintaining a balance between capital preservation and long-term investment opportunities is crucial during a recession. By prioritizing quality investments over speculative ones, investors can protect their portfolios from unnecessary risks.
Conclusion
During a recession, it’s essential to maintain a strategic investment approach and avoid exposing your portfolio to undue risks. By focusing on high-quality government securities, investment-grade bonds, and financially stable companies, you can navigate economic downturns more effectively. Remember, past performance is not indicative of future results, so conduct thorough research before making any investment decisions.
— This article includes contributions from Georgina Tzanetos
Editorial Disclaimer: Investors should conduct their own research before making investment decisions. Past performance is not a guarantee of future results.