Due to the events in the past couple of years (the pandemic, Ukraine, etc) many countries are experiencing economic downturns. And, as expected, the UK’s economy has also been impacted and it is safe to say that we will end up in a long recession.
What is a recession?
A recession is when a country’s economy slows down and people are not spending money. It can occur if the economy declines for two consecutive quarters; that is for six months. While the Bank of England has not officially declared a recession, the economic figures point to a matter of when not if.
The inflation rate has soared to 9.1% and the Bank of England (BOE) has predicted it to reach 13% by the end of the year. This is coming on the heels of an astronomic rise in energy prices which has risen by 54%, which has made consumers spend more on energy as income remains relatively stagnant.
This gloomy economic outlook does not portend well for the average consumer on the street. We are about to discuss what you can do to protect your finances if a recession were to start today.
How to protect your finances in a recession
1. Keep an emergency fund
During a recession, you will need money to weather the storm of the economic downturn. One source of liquid cash is a personal savings account or a fixed deposit account. Experts advise you have savings that could cover your living expenses for at least six months. This prevents you from selling any investments or relying on borrowing money.
In the event you lose your job, which could happen during a recession, a sinking fund will come in handy.
2. Leave your investments alone
Falling investment fortunes can pressure you to sell. Such periods present the opportunity to look long term. The market is cyclical and will likely rebound in the long run.
In fact, expert advisors recommend you buy when the market is down and appreciate the returns when the market becomes bullish again. As history has shown, bull markets last longer than bear markets.
Consider dollar cost averaging
Instead of selling your investments, consider buying more stock since their prices will be falling in a recession. The idea is to buy and wait for a recovery of the economy. Dollar Cost Averaging (DCA) is a technique you can employ. With DCA, you don’t pay in bulk for any stock you want to buy, you pay a little every month because the prices of the stock may fall each month.
But you must consider only value stocks which have pricing power & which you think will benefit from the higher inflation. Most large investors have shifted to defensive stocks in 2022.
Don’t currently have any investments? Learn how to start investing today!
3. Exploit falling prices or hedge your risk
If you are a long investor but are worried that markets could fall, you can consider covered short selling.
What is covered short selling?
Short selling is a way of making a profit off falling prices in a bearish stock market. You can benefit from falling prices, by entering into a Contract for Difference (CFD) with a CFD provider or a regulated forex broker. There are a few FCA regulated forex brokers that support trading in diverse asset classes as CFD instruments.
How to make money from falling stock prices?
You can make money from falling stock prices by borrowing shares from your stockbroker. You make the money by:
- You “borrow” the stocks from your broker
- You sell the borrowed shares at the current market price
- Wait for the share price to fall
- Then re-purchase the shares at a lower price and return them to your broker.
- You then keep the price difference
What are the risks of short selling?
The risk of short selling is that you could face unlimited losses if the price of the borrowed shares rise instead of falling. For example, if you borrowed 100 shares and sold them at £10 each, but the price increased to £15, you would have to buy them all back and will lose £500.
There are also inverse ETFs which track the major indices & let you profit from the falling markets or hedge your risk.
4. Spend Less Than You Earn
There is no better time to live within one’s means than during a recession, especially when inflation is soaring beyond income levels. During recession periods, you should look to stop wasting money every month.
One benefit of spending less than you earn is having cash to meet the increase in cost of living. It also provides one with funds needed to meet unexpected expenses such as health care bills in the event you fall sick, household/car repairs, etc. Finally, spending less than you earn prevents you from borrowing, which in turn can push you into debt.
Whilst not wasting money, you should look into the different ways you can reduce your electricity usage.
5. Keep the Credit Card Down
A recession is not a time when you should get a credit card. It is even advised you pay up existing debts, especially high-interest debts before we go neck deep into the recession. Although credit cards can be useful when the economy is stable, they can be bad when the economy is dropping. You may not have the money to pay the full amount off each month, which means you will end up being charged high-interest rates.
6. Find a Side Hustle
Recessions are characterised by job uncertainties. This is more reason you should not rely on only one source of income as it can be terminated anytime.
Your part-time or side gig could be freelancing, using your car for taxi services, working on weekends etc.
Earnings from a side hustle can help shore up the extra inflation cost on consumer goods and all other expenses. It can also serve as a last resort in the event you lose your main job.
7. Consider Other Means of Transport
In the U.K alone, energy prices have risen by 54% since the Russia-Ukraine crisis started. The crisis has pushed crude oil prices up which, in turn, has made petrol prices rise.
One way to navigate this hike in energy prices is to seek alternative and cheaper means of transport. These include taking a bus or train rather than using your personal car. You can also cycle if it’s not a long-distance journey. And if it is very short, you should consider walking to save money. I walk to the supermarket a mile away from the weekly shop and carry it back!
We hope these tips have been useful!
James Banerjee is an Account Director who graduated from the University of Kent in 2014. He works in SEO on clients such as HSBC UK and Nestle and he has a keen interest in personal finances and money-saving advice.