What You Should Do with Your Investments in an Economic Slowdown
We’ve seen economic growth decelerating globally over the past year. Specifically, in 2019, the US economy grew at a much slower pace than it did the previous year.
Fortunately, central banks around the world are keeping a close eye on growth, and have shown readiness to act to manage the weakening economy. For instance, the US Fed went through 3 rate cuts in 2019 alone to help spur growth in the US.
With growth slowing globally, investors have been asking us what they should do with their investments in this environment, and many ask if they should even start cashing out their investments “to be safe”.
These are the wrong questions to ask. Instead of asking what to do with their investments, and if they should divest into cash, they really should be asking, “Have I prepared my investments (and myself) properly for a changing economy?” Here’s why:
You can’t time the economy
Some investors cash out their investments because they think they can time the economy and buy at the bottom. But just as you can’t time the market, you also can’t time the economy. The direction of an economy hinges on a multitude of factors that are hard for individual investors to predict. So, the success rate of any decisions about your currently invested assets is similar to trying to time the market.
And a weakening economy doesn’t necessarily mean a weakening stock market, either. The economy, which is driven by factors such as growth and inflation, and the markets may not always be correlated.
Don’t believe us? Consider this:
In 2019, as the US growth rate indicated a slowdown, the S&P 500, recorded an annual gain of 24.5% in November. If you had sold your investments for cash in order to re-enter at the “right time”, chances are you’d have lost a big earnings opportunity.
So, regardless of what the media say about the economy, you can’t make market decisions based on that. (Not that you should be trying to time the market, either.)
Divesting to cash hurts you in the long term
Repeat after us: “Cash is not a safe haven for when you are worried about being invested in the markets.”
Cash is to pay your monthly expenses, such as bills and rent, to have an emergency fund, and to prepare for any upcoming purchases, such as a downpayment on a new home. In a weakening economy, holding too much cash isn’t the solution as it guarantees that you lose out on market opportunities that only resilient investors experience (and not to mention, your idle cash also loses value).
Your risk exposure is what you should be paying attention to
If you’re thinking about moving money out of your investments, chances are you’ve exposed your money to too much risk. Instead of cashing out, what you need to do is think about your risk tolerance and adjust to risk levels that you can consistently maintain throughout the market ups and downs. This way, it won’t matter how the economy is doing, because your potential downside is always managed.
Divesting for cash is not how you manage potential unemployment
The prospect of potential unemployment is also a major concern in a weakening economy. Make sure to have an emergency fund set up long before an economic slowdown. This way, your emergency fund can tide you over in case of an emergency, unemployment included. Don’t let being unprepared for life’s inevitable curveballs be an excuse to cash out your investments and jeopardise your long-term financial goals.
How to be prepared for a changing economy
Right now, despite the central banks helping to prop up growth, the fears of an impending recession aren’t being dispelled. Though we’re not facing a recession at the time of writing, it’s important that you understand that recessions are just a part of the economic cycle, and you need to be prepared mentally and financially for it.
Stick to your investment plan and manage your risk ahead of time so that you don’t resort to cashing out when the economic environment starts to change. Also, make sure to allocate enough cash to your emergency fund to protect your investments from any temporary setback you might have.
At StashAway, we help our clients prepare for a changing economy by managing their risk throughout different economic cycles. Our investment framework, ERAA®, takes a forward-looking macroeconomic approach in managing risk. We use leading macroeconomic indicators for growth and inflation to detect changes in the economic cycles and if there’s a change in economic or market conditions, our system will make the decision to re-allocate the assets in your portfolio to minimize the impact of this change. Instead of cashing out and losing out on investment opportunities, as long as you select the right risk level, our system can help you stay invested for the long run.