How to Recession Proof Your Portfolio

Tips For Recession-Proofing Your Financial Portfolio.

Recession fears have sent the major stock market indices into a downward spiral again. The economy suffered the mortgage crisis and credit problems recently, and now there is a lot of talk about another recession. This brings new challenges and new opportunities. Investors need to be ready to make their investment portfolio solid and able to withstand decline.

A well-diversified investment portfolio is able to cushions market risks. Investors need to check their asset allocation, determine where they have the greatest exposure to risk and rebalance the portfolio to reduce the risk. Diversity is always a good idea, but when a recession hits it is inevitable. What financial instruments should a diversified portfolio include?

1. Stocks of large-cap corporations involved in selected consumer-product industries

When the economy slows, many investors prefer a defensive approach. This usually means reducing exposure to stocks. But not all stocks are equal. Investors need to focus on high-quality, dividend-paying large-cap stocks that can ensure a higher quality of earnings. These companies have proved to be resistant to the downturn that many stocks take in a recession.

Smaller companies are more likely to face difficulties in finding financing sources and market opportunities and their stock prices generally have larger negative reaction to economic decline.

When an investor wants to keep stocks in his or her portfolio during recession, the safest shares are those of high quality companies with long histories. Their size may help them survive periods of decline.

When a recession hits, companies slow down business investment and consumers reduce their spending, too. Cautious investors need to avoid stocks of companies in cyclical industries like industrial materials, commodities, technology, real estate, banking and luxury consumer goods. These sectors are the most negatively impacted during a recession.

It is advisable to look for shares of larger companies in solid industries with steady streams of cash that can handle prolonged periods of weakness in the market. The consumer staples sector usually performs better during decline. Although these stocks may slide in a recession, they typically lose less. The most reliable sources of profits include food, beverages, personal care, household products, and tobacco. These companies perform decently, even in a recession, as consumers  buy these items during uncertain economic times as well. Consumer staples are generally the last products to be removed from a budget.

Large-cap consumer staples companies also pay high dividends. For example, Altria Group,  Kimberly Clark,  Procter & Gamble are known to pay appealing dividends. Other large consumer-product manufacturers such as Hershey Foods, PepsiCo, Walgreen Co., and Wm. Wrigley Jr. may hold up well during difficult times.

Big pharmaceutical and healthcare firms tend to produce predictable earnings in recession, therefore shares of Eli-Lilly, Express Scripts, GlaxoSmithKline, Johnson & Johnson, Merck, and Pfizer may be included in a recession-proof portfolio. Mergers and acquisitions have affected companies in the pharmaceutical industry at the end of the 20th and at the beginning of the 21st century, but an index consisting of the largest drugmakers would have outperformed the broader market indices. During recession, the losses of their stocks beat the bigger losses in the broader markets. Besides being good choices in a recession-proof portfolio, large-cap drugmakers make superior long-term investments in any business-cycle environment.

2. Short-term bonds and other fixed-income investments

In a tough economic environment, investors become more concerned about risk and sell their higher risk investments and move into safer securities such as government debt. High-yield corporate bonds and mortgage-backed securities have higher default rates than government securities. Longer-term bonds may be risky, but U.S. government agency bonds are still reliable. Short-term investments such as certificates of deposit and U.S. Treasury notes are safe heavens during recession.

3. Everyday Cash

Cash is king, especially in a recessionary environment. When asset prices fall, cash keeps its value. Although it faces inflation risk, it is the smallest risk that may occur during economic decline.  Moreover, it is good to have cash when recovery begins. Investors having cash can use the opportunities to buy assets when prices are low. The portfolio can be rearranged again through purchasing cheap stocks.

Very few investors are able to avoid losing some money in a recession, but you can try to withstand downturn, and avoid big losses through managing your investment portfolio.



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