Does a Recession Matter to My Financial Plan?
Updated: Oct 27, 2022
Even if we are in a recession, we probably won’t know for sure until after the fact.
This is a great time to take advantage of investing, retirement and tax planning opportunities.
Now is not the time to be fearful or to make drastic changes to your plan.
Several clients have asked me if they’ll need to adjust their financial plan if we officially go into a recession. The short answer is "no," since the long-term plans we put together for clients already have occasional recessions and stock market declines built in. In fact, there are some great opportunities to implement retirement planning, investing,
and tax planning strategies in this environment, which I’ll get to in a minute.
The traditional definition of a recession is two consecutive quarters of negative GDP (Gross Domestic Product or the total output of our economy) growth – i.e., the economy has been shrinking, not growing for at least six consecutive months. And by that definition, we’re in a recession. According to the U.S. Bureau of Economic Analysis the U.S. economy grew at minus 1.6% from January through March (Q1) and by minus 0.9% in April through June (Q2).
These are relatively modest GDP declines. However, when you have a 3.5% unemployment rate, which is close to the lowest we’ve seen in 50 years, it’s hard to believe we’re in a recession. It’s certainly no reason to make drastic changes to your financial and retirement plan.
Today we use a more nuanced definition of “recession” courtesy of a committee at the National Bureau of Economic Research. The NBER committee digests mountains of economic data including gross domestic product, employment, household income, consumer spending and industrial production, and tell us whether they’ve seen “a significant decline in economic activity that is spread across the economy and that lasts more than a few months,” according to its website. Since, there’s a natural time lag in the data, we’re often already out of a recession by the time NBER officially declares it. So, how useful is that information in terms of deciding how you’re going to take action? Not very.
What caused this recession-ish feeling?
A lot of what we’re experiencing today is the after-effects from COVID:
Inflation caused by supply chain disruptions, causing higher food prices.
Record-high gas prices, stemming from Russia’s invasion of Ukraine.
Savings buildup from government stimulus payments during COVID.
Savings buildup resulting from consumers unable to spend during COVID.
People wanting to move out of cities, which contributes to higher prices for cars and homes
If we are in a recession, how does is it impact my plan?
Again, if you’re a Novi client, we’ve already accounted for the possibility of an occasional recession and stock market downturn in your long-term financial plan. During times like these, we recommend focusing on three main areas of opportunity: retirement planning, investing, and tax planning. Let’s take them one at a time:
1. Retirement planning.
Focus on the big picture. We’re going to see recessions occasionally over a several-decade period. As long as you stick to your plan and remain disciplined, your plan is going to work over the long haul. An occasional recession is not something to fear.
As Warren Buffet likes to say: “Be greedy when others are fearful and be fearful when others are greedy.” People are certainly fearful today. Stock prices have dropped significantly. This is a great opportunity to invest idle cash, especially if you’re still in your working years and feel that your job is stable. As mentioned earlier, we’re experiencing the lowest jobless rate in half a century. Most of you should feel pretty secure in your job. Stocks have always been one of the best ways to outpace inflation because of their higher long-term average rate of return. When stocks are down, resist the urge to become more conservative. Unless you’re going to be retiring very soon, now might be a good time to revisit your asset allocation and consider moving more into stocks. That’s certainly a conversation we’re having with many of our clients.
3. Tax planning.
It’s not just about doing tax trading, although this is something we have done frequently for our clients this year. Times like now are also ideal for people to reposition assets for future growth. You can reposition investments among your investment accounts to make them more tax efficient. You can also convert to a Roth IRA and take advantage of extremely low income tax rates. When the markets bounce back, your rebound will be all tax-free growth within a Roth. If you have cash available, it’s a good time to invest in a college saving account for your children or grandchildren. As with Roth IRAs, when the stock market bounces back, the growth of your money in a college savings account will be tax-free.
Put your idle cash to work
When things seem uncertain, it’s tempting to sit on your cash until things “settle down.” But doing nothing with your cash while waiting for the market to recover costs you money in two ways:
Recoveries happen fast. By the time it seems safe to get back into the markets you will have missed out on the bulk of the returns.
The cash you’ve parked in “safe” investments is earning very little while inflation (currently 8.5%) is quietly eating away your savings.
We find it is best to develop a specific plan for how to invest your cash and stick to it.
In today’s instant gratification world, people want things to happen immediately, but that’s not reality. High inflation is one of many economic impacts we have experienced as a result of COVID 19. The global economy is incredibly complex. It takes time to adjust to changes in supply and demand. While change can be painful, a little bit of patience goes a long way. Our advice is to focus on the big picture (your financial plan) and the things you can control (see above). If you or someone close to you has concerns about market volatility or your retirement readiness, please don’t hesitate to reach out. We are happy to review it for you.
RYAN M. VOGEL, CFP® is the CHIEF PLANNING OFFICER, PARTNER at Novi Wealth