Where to Invest during a Recession?

Where to invest in case of recession?

Many experts have expressed concern about the Fed’s recent announcements regarding GDP estimates for the year 2023. While economic growth expectations in the United States for the first quarter are at 3 .2% and the level of 0.4% is expected to be reached by the end of 2023, which means that there is a good chance that the coming quarters could show a contraction in GDP.

Furthermore, the turbulence characterizing the banking sector could considerably reduce the commercial activity of the banks, leading to a decrease in the availability of credit with a consequent increase in the financial difficulties of the companies.

This scenario also appears to be shared by traders on the US bond market: the yield on US Treasuries has fallen significantly despite the fact that the central bank has not hinted at any reduction in interest rates. Some managers are therefore beginning to wonder whether it might make sense to rebalance one’s investment portfolio in favor of asset-classes that have historically performed better in recessionary periods.

During recessions, investors typically favor stable assets , notable among which are:

• defensive actions,
• high quality bond,
• gold.

Other investors, on the other hand, are looking for investment opportunities in undervalued companies, perhaps looking at investment funds or sectoral ETFs on more speculative sectors, such as technology for example. But what happens to the economy in recessionary periods and which asset classes would, in theory, be preferred in recessionary situations?

The impact of the recession on financial markets

An economic recession is a period of contraction in the economy characterized by a decrease in production of goods and services and a reduction in economic activity. In 2022, major central banks voluntarily tried to create a climate of distrust among economic operators with the aim of cooling the economy and causing lower the inflation rate, close to the 2 target %.

During these times, investors tend to be more cautious and look for safer investments, as stock markets tend to experience significant losses, with share prices falling and volatility. This is because the decrease in production and spending by individuals could lead to a significant contraction in corporate profits and therefore also to a reduction in their stock market value.

In 2022, with the sudden increase in interest rates by the central banks of Western countries, the market anticipated the possibility that corporate profits could go down. For the stock market, it was one of the periods where stocks experienced the deepest declines in 100 years.

However, it is important to note that every recession is different and the effects on financial markets may vary depending on the circumstances. In this case, there are many divergences from past recessions, such as the fact that the economic cooling was not sudden but rather artificial and premeditated directly from central banks. In fact, the markets moved in advance, discounting the consequences of a recession in advance on the markets.

Although there has not yet been a technical recession in 2023, the markets are already pricing in possible interest rate cuts in their movements. This is because rates typically fall during an economic downturn due to central banks trying to stimulate the economy and demand for credit in order to incentivize spending and investment.

Where to invest in the event of a recession

During downturns, the investing public tends to favor asset classes that are objectively more stable and less subject to heavy volatility including defensive stocks, treasury bonds and safe-haven assets , such as gold.

Many companies continue to generate profits even during recessions, regardless of general economic conditions. A classic example is companies that sell essential goods, such as food and medicines. For this reason, many experts look with interest at ETFs in the Food & Beverage and Healthcare sectors.

Others, on the other hand, simply shift their attention towards companies considered value, creating a portfolio of companies oriented towards ex-dividend.

Similarly, given high interest rates, some investors may prefer to shift their weight to high quality government bonds, which in the past have often been able to counter the stock market consequences of an economic downturn.

Last but not least, gold has often been found to be an asset capable of offering some protection against inflation and stock market volatility.

However, some investors often do not exclude the possibility of exposing part of their assets to risk, choosing to rely on mutual funds or by personally allocating part of the own capital in companies with good growth prospects but whose stock market value has significantly decreased due to the difficult economic context.

Historically, the best investment opportunities have - in most cases - presented themselves in bear markets, however long and lasting they may have been.

Original article published on Money.it Italy 2023-03-29 16:01:00. Original title: Allarme recessione: dove investire?