Preparing Your Finances for a Recession
By Michael Swierczek, Investment Portfolio Advisor, ALPA Retirement & Insurance Team
It’s likely we’re now in the beginning stages of a global economic recession. The last bull market in equity investments started in March 2009, a few months before the recession ended, and lasted for more than a decade before ending earlier this year. This latest U.S. economic expansion was the longest in history, dating back before the Civil War. For many in today’s workforce, this will be the first recession they’ve faced in their careers. For many others, it may be a stark reminder that bull markets and expansions don’t last forever. For those facing a reduced workload, furloughs, or terminations, this can be a very trying time. Financial markets are seeing unprecedented events, including all-time lows in yields and unheard of volatility.
To the extent possible, it’s important to stay focused on the long term and avoid making drastic changes. However, for many facing financial challenges due to a lack of preparedness/emergency savings, lack of resources, and/or circumstances out of their control, this may not be possible. Faced with these new realities, there are many steps to consider taking now.
1. Cash is king.
In times of uncertainty, cash provides options and flexibility that other assets don’t. This flexibility can take many forms, such as providing a pool of assets from which to pay bills in the absence of income or investing in markets at drastically reduced prices that may represent a unique buying opportunity. Consider doing what you can now to raise cash. This may involve
- refinancing a mortgage. Rates may be lower than what you’re currently paying.
- selling assets. Selling financial assets (stocks, bonds) is much easier than selling physical property; but in more extreme circumstances, selling physical assets (houses, cars) could become necessary. When selling, pay attention to potential tax implications or penalties.
- generating other income/cash
- Unemployment. Unemployment compensation differs from state to state, so do research regarding your unique situation. Furloughed employees may be eligible for unemployment compensation.
- Loans. Obtaining a loan—including a home equity loan, a personal loan, or a 401(k) loan—is easier if you’re still actively employed. For 401(k) loans, the new CARES Act provides additional options (see page 16). Check with your plan recordkeeper for specifics regarding your plan.
- Other income options. In a worst-case scenario, options for producing additional cash flow could involve generating cash flow off physical assets, the gig economy, e-commerce, or other opportunities that may fit your individual skill set or local situation.
2. Reassess your spending and budget priorities.
Look at your cash holdings and consider your cash-flow needs. How long will that cash last given your situation? If the answer is “not long enough”—especially given scenarios that project that the airline industry slowdown could last for some time—then consider opportunities to stem the outflow of cash now. Reassess where your priorities lie and how they may have changed in the current environment. Do you have a gym membership that you can cancel now? If you’re spending more time at home, can you cut back on the costs related to child care or family activities? Reassess your insurance coverage and pricing. A budgeting worksheet is available on the R&I page at www.alpa.org/budget that will help guide you through this process and get you thinking about where you spend your money.
If you’ve been furloughed or terminated, make sure to reach out to your mortgage service provider immediately to notify your lender that you’ve had a disruption in income. Government-backed loans, and many banks, landlords, and others, are offering a variety of forms of loan forbearance. Some states have instituted a moratorium on evictions. Laws will differ by state and possibly locality. Be aware that you’ll still owe the money. It’s just a delay in payment to address cash-flow needs. In more extreme circumstances, available credit-card balances can be a lifeline for certain expenses, but keep in mind that most lenders won’t accept them for certain major expenses like mortgage or car payments.
3. Reassess your account diversification.
Having financial assets in multiple types of accounts allows for more flexibility when needed. Individuals tend to focus more on long-term planning, specifically as it relates to retirement. But times like these highlight the importance of an emergency savings fund, after-tax investments, a regular brokerage account, and/or a Roth IRA that you can tap without all the associated tax implications or penalties. If you’ve been ignoring these types of accounts to max out your 401(k), start doing what you can now to build these accounts before you need them.
4. Reassess your investment diversification.
During times of long bull markets (such as the past decade plus), and especially when combined with periods of low-market volatility (such as we’ve seen over the past few years), investors can become complacent to the risks inherent in investing in certain asset classes. This may lead to taking on too much risk, which rarely is apparent when those risks are generating outsized returns. But the risk will become all too apparent when it leads to outsized declines. It may be a good time to reassess the risk in your portfolio, your ability to take risk, and your personal risk-taking or risk-aversion mindset.
It’s recommended that you rebalance your portfolio annually. This allows you to dollar-cost average by selling high (assets that have appreciated) and buying low (assets that have relatively underperformed), as well as ensure that your portfolio doesn’t take on too much/too little risk. In times of severe volatility (as we’ve seen recently), asset classes can move significantly far away from your targets in a shorter period of time. While equity investments have seen significant declines of late, fixed-income investments have performed much better, and may even be positive in some instances, such as positions with long durations and/or high exposure to treasury bonds. In turbulent times, consider rebalancing more frequently, perhaps quarterly or even monthly. If you’re satisfied with your personal liquidity and short-term cash needs and are happy with your risk allocations, rebalancing may allow for greater exposure to equity investments when those markets reverse and start to rebound.
6. Don’t try to time the market.
Timing the market is extremely tough. Not only do you need to know when to sell out of positions, but you also need to know when to buy back in. Selling equity investments to rebalance, reduce risk, or to generate cash for possible income disruptions are all valid reasons, but leaving cash sitting on the sidelines or attempting to time the market to get a better price are strategies that typically lead to underperformance.
These are trying times for all of us. This information is provided to help ALPA members navigate a very difficult and stressful period. Everyone’s financial situation is different. You should consider your own situation and consult with your financial advisor. If you don’t have a financial advisor and are looking for guidance, ALPA has partnered with Charles Schwab to provide unique benefits and pilot-specific knowledge available only to ALPA members. Visit www.schwab.com/alpa or call Schwab’s dedicated ALPA number at 1-877-648-4719 and identify yourself as an ALPA member.
Editor’s note: ALPA is providing this information to educate pilots on general financial planning topics. ALPA does not provide individual tax or financial planning advice, nor does it endorse any financial product or service.