While the COVID-19 pandemic has impacted financial markets, there are still ways your investments can work hard. Here, we look at what a recession is and explore four strategies for smart investing during this time.
Investors may question if their money is safe, and if it’s still going to meet their long-term investment goals when share markets and interest rates fall and consumer and business confidence declines.
Whether it’s a period of sustained volatility due to a global financial crisis, a global pandemic, or a recession, the basic rules of investing still hold true. Let’s take a look at what a recession is and then explore some strategies to consider when economic growth is flat or negative.
What is a recession?
The Reserve Bank of Australia (RBA) defines a technical recession as, “two consecutive quarters of negative growth in real gross domestic product (GDP)1.” The RBA also describes it as, “a sustained period of weak or negative growth in real GDP (output) that is accompanied by a significant rise in the unemployment rate.”
Australia’s last recession was over 30 years ago, thanks to our abundance of natural resources and a boom in the Chinese economy underpinning ongoing demand for these commodities.
Historically, we’ve had low levels of public sector debt which has allowed the federal government to inject money into the economy, enable consumer spending and stimulate growth when needed. Australia’s high level of population growth has also supported consumption and demand. We have seen the benefit of our relative low levels of government debt, where as recently as October when the government announced unprecedented fiscal spending to support, though the raising of debt, for the economy during the significant disruption to our economy as a result of COVID-19.
Additionally, the Australian dollar is valued by supply and demand, not by the federal government or the Reserve Bank of Australia. This floating exchange rate helps us adjust to international shocks as the currency depreciates, which helps promote exports and less spending on imports.
Despite the current period of low or negative economic growth, driven not by economic fundamentals, but by a global pandemic, there are a number of strategies to ensure your investments continue to work hard for you.
1. Invest for the long term
Don’t allow emotion to get in the way of sensible decision making if you’re a long-term investor with a time horizon of 10 years or more. Selling your investments and moving these funds to cash may seem like a safe option, but you’ll potentially be crystallising your losses and missing out on any opportunities that could arise when the market rebounds.
At times like these, we recommend seeking financial advice, so you have a plan to realise your investment dreams.
2. Try to invest regularly
Volatility doesn’t necessarily result in poor investment outcomes. It can present opportunities. The principle of investing regularly, regardless of whether the market is rising or falling, allows you to buy more of an asset when prices are low and buy less when prices are high.
This is known as dollar cost averaging. Not only should this result in a better average price for your shares over time, it should also potentially allow you to hold more of an asset, which will benefit the value of your portfolio when prices rise again.
Superannuation fund members who make regular contributions and don’t yet need to withdraw from their super, and investors who have a regular contribution plan set up as part of their investment strategy, are already making the most of this approach.
3. Be sensible and leave the decisions to the professionals
Market timing is an investment strategy used to try to beat the share market by predicting its movements and buying and selling accordingly. It’s the exact opposite of the long term buy-and-hold strategy, where an investor buys shares or assets and holds them for a long time, designed to ride out periods of market volatility.
Investors need to be correct more than half of the time to get any benefit from an active market timing strategy. This is almost impossible to achieve, even for market professionals.
You’re more likely to miss some of the best days of the market rather than picking them correctly. And as research from global fund manager Fidelity shows, a $10,000 investment in the Australian share market that missed the 10 best days during the period October 2003 to April 2020 would have cost you $13,523 in lost earnings2 .
4. Allow diversification to spread your risk
Not only is it difficult to time the market, it’s also hard to predict which asset class will perform best in any given year. Last year’s best performing asset class can easily become next year’s worst, or vice versa.
Many investors choose to manage this by diversifying their investments across different asset classes such as shares, bonds and cash and create a portfolio that’s based on their risk tolerance, time horizon and investment goals.
It’s important to understand that diversification doesn’t mean you’ll avoid market volatility completely. Even with a well-diversified portfolio, your investments could still potentially experience periods of underperformance.
5. Staying positive during market downturns
The most important thing you can do during market downturns is not panic.
Stay emotionally strong and ensure your investments remain aligned to your investment goals. That’s the best way to generate returns over time.
2 Fidelity International https://www.bt.com.au/insights/strategies/2019/03/dealing-with-market-volatility.html The chart shows how a notional $10,000 investment would have been affected if the 10 best days were missed. Uses daily returns of the ASX/S&P 200 Accumulation index (Source: Datastream) for the calculations, from 31 Oct 2003 to 06 Apr 2020.
This article was prepared by BT, a part of Westpac Banking Corporation ABN 33 007 457 141, AFSL and Australian Credit Licence 233714. This information is current as at 27 October 2020. This article provides an overview or summary only and it should not be considered a comprehensive statement on any matter or relied upon as such. It does not take into account your personal objectives, financial situation or needs and so you should consider its appropriateness, having regard to these factors before acting on it. This information may contain material provided by third parties derived from sources believed to be accurate at its issue date. These projections are predictive in character. Whilst we have used every effort to ensure that the assumptions on which the projections are based are reasonable, the projections may be affected by inaccurate assumptions or may not take into account known or unknown risks and uncertainties. The actual results actually achieved may differ materially from these projections. No company in the Westpac Group accepts any responsibility for the accuracy or completeness of, or endorses any such material. Except where contrary to law, we intend by this notice to exclude liability for this material.