2020 has been a big year and a bumpy ride for investors. From COVID to elections and an economic recession, the word of the year might as well be “uncertainty”.
So what do investors need to know when it comes to investing for 2021?
While we can’t predict the future, we can use data about the current market and historical recessions to give us a starting point for a strategy. We’ll look at some of the core points about preparing your portfolio for 2021, long-term consequences of a recession, and some common strategies for investing in a downturn.
COVID is here to stay
It’s easy to see that COVID-19 has overwhelmed the financial market. In March alone, the US stock market hit its circuit breaker four times within 10 days - slowing the trading so investors could understand the dramatic fluctuations. At the onset of the pandemic, we saw a 10% plunge in the US and similar effects across the international exchanges.
The fact is - investors are overall more cautious and more uncertain. As European countries and many US counties mull over a second lockdown, the pandemic doesn’t seem like it’ll go away anytime soon.
But COVID also tipped off a long-expected recession early in 2020. This change has altered the economy and investing landscape and further complicated investing strategies.
The Biden presidency and the market
A new president almost always signals an upcoming shift in fiscal policy and market preferences. Biden is no exception.
This means investors will be reshuffling their portfolios to include potentially profitable investments under the new administration. But what will those be?
We can infer some items from Biden’s stance on several topics. Some possible changes include:
Higher taxes. During his campaign, Biden has proposed increases on corporate tax and various increases for individual taxpayers. Tax mitigation strategies may come to the forefront in 2021.
More predictable trade policies. Much of the volatility under Trump’s presidency resulted from uncertain and sometimes seemingly spontaneous policies. Biden is likely to be much more predictable, and this may help stabilize the markets.
Eco-friendly investments. An emphasis on environmental, social, and governance (ESG) stocks and investments is likely to take place under Biden. This could signal more support for sustainable and clean energy businesses.
These are but a few expected changes for 2021 and the Biden presidency. And investors will want to pay close attention to federal policies early on to get a better sense of market direction.
Dealing with the (even more unpredictable) stock market
Despite high unemployment, a global pandemic, upcoming government shifts, ongoing trade tension with China, and a recession, the stock market is booming. In fact, it almost looks like it’s on steroids.
The reason is that the stock market and the economy are far from the same thing.
The economy deals more with hard numbers - employment rates, supply and demand, and business policy. Meanwhile, the stock market is more emotional. The economy can affect stock prices, but that isn’t the only factor. More often than not, changes in the stock market are determined by investor emotion regarding not only the overall economy but also a certain industry sector or business.
In 2020, the market continued its upward trend mainly because:
Profits are concentrated in large companies like Amazon
The Federal Reserve has set historically low-interest rates, so stocks look more lucrative than bonds and other fixed-income investments.
Investors may be optimistic about economic recovery
Keep in mind, that even though stock prices keep rising, they will fall at some point. Investors have to decide as to whether to buy now in hopes of further price hikes or play it safe until the stock market corrects itself with a bearish streak.
Long-term trends of the recession
With over 11 million unemployed and an uncertain economic future, economists are still not sure how long the current recession will last. But unlike previous recessions, the stock market is still running strong.
Each downturn is a bit different, but generally, investors can count on a few long-term trends. Some potential outcomes detailed by the Economic Policy Institute are:
A reduction in educational investments and spending
Continued unemployment that will sustain higher poverty rates and lower spending
Investment slowdown can result in less innovation
Fewer small businesses and entrepreneurial opportunities
How severe these aspects will actually be will depend on how long the pandemic will last and the amount of government support in the form of future stimulus packages.
4 ideas for surviving and investing in an economic downturn
So what does this mean for you? With a slowdown in innovation and small businesses closing their doors, investors are also tightening their belts. While cash investments are more stable, low-interest rates translate into poor returns. The risks of property as a wealth-building asset have been made apparent with COVID-19 rent freezes and increasing housing inequality.
To make matters more confusing, the stock market is up. Normally during an economic depression, we’d see the stock prices drop - making it a great time to buy. But as we’ve already covered, that’s not always the case.
So as an investor, what do you do?
Manage your cash flow - The first thing is to cut where you can so you can stretch your dollars. You may want to bolster your emergency fund or simply ensure that your savings are consistent. Either way, it never hurts to evaluate your current cash flow and try to keep as much cash in your account as possible.
Evaluate cash investments - Investing in assets like gold or U.S. Treasury Bonds are the regular go-to recession options. But they aren’t your only ones. Before investing or selling anything, review and research different investments avenues. You should also keep in mind that cash investments typically offer lower returns, even if they are lower risk, and often require significant capital for reasonable gains. Even if they feel “safer”, investing too heavily in cash-based investments is likely to stagnate your wealth-building efforts.
Meanwhile, inflation will continue to rise.
Essential goods and other traditionally “recession-proof” markets - Think about what you use every day - and you can get an idea of where to start looking for “recession-proof” stocks. While there is still risk involved, the risk for these items is typically lower than for luxury goods. Some essential goods include food, beverages, household goods, utilities, and other necessities.
High-quality dividend stocks - When looking to invest, settle on stocks and funds that release regular dividends. High-quality investments that pay you - even during a downturn - likely have the capital to stick around. In addition, these dividend payments ensure that your wealth is continuing to grow.
Do keep in mind your risk tolerance levels! If you have a very low tolerance for risk, cash investments may be a better path for you. But if you can stomach more fluctuations, picking up stocks also offers the chance at greater returns.
Is your portfolio ready for 2021?
Recession and COVID-19 aside, you should always reevaluate your portfolio regularly to make sure you’re on the right track. And you should never invest until you are aware of all the potential risks involved and understand how an asset fits into your goals. Talk to an advisor - preferably a fiduciary, before making any big financial decision.
At the end of the day, you are your most important asset. Part of financial freedom is peace of mind - in good times and bad.