Second Recession: Don’t Let Fear Take Over

by Vered DeLeeuw · 15 comments

“There’s going to be a second recession. You have to get out of the market NOW!” Said my friend. “It’s going to be a double-dip recession, and the second dip will be REALLY bad. Even treasuries won’t hold up if there’s a triple-digit inflation. You should do what I did. I gave a big chunk of my money to an Australian guy that buys real gold for you and holds it in underground shelters.”

This was a real conversation with a real life friend, and as depressing as it was, the conversation also got me thinking about how fear can lead to irrational behavior and how I should prepare myself to not get sucked into such behavior.

Don’t Let Fear Guide Your Decisions

The problem with acting out of fear and being irrational is that you are guaranteed to lose money that way. Selling your entire stock portfolio is likely going to be costly in terms of trading costs, and even more so if you sell when the market is down. It’s been said before – the stock market is the only market where people buy when merchandise is expensive and sell when it’s cheap. If the market goes down but you’re young enough that you’ll have time to recover, my personal belief is that you should stay put and ride it out, even when it gets ugly.

But DO You Have Time To Recover From a Down Market?

That depends on your age. If you are in your twenties, thirties or forties and have at least ten years until you plan to retire, you probably have time. If you’re in your fifties or sixties, I don’t think you should put more than 20% of your portfolio in the stock market anyway. The risk is just too great at an age when you will soon need to live off your nest egg.

How You Can Protect Yourself

Sure, the market can get scary. It got scary in the early eighties, in the early nineties, and again in 2000 – 2002, after the dot com bubble had burst. It got scary in 2008. It got scary many times before and many times in between, and will get scary many times in the future. The market moves in cycles, and those can be harsh, but in the long run, over a period of a few decades, the market is very good to those invested in it.

If you decide to stay in the market despite fears of a second recession, you do need to take a few basic steps to protect yourself:

1. Never try to time the market. You will almost always end up losing. Timing the market is like gambling. Some people develop the skill to learn how to profit, but pretty much everybody loses. What are the odds of winning when you gamble?

2. Keep your portfolio well-diversified. You should never invest solely in stocks. many experts tell you to go by the rule of subtracting your age from the number 100 to determine what percentage of your portfolio should be in the stock market, but I say, do what feels right to you. I never felt comfortable with more than 40% in the stock market, and I’m not even 40.

3. Protect yourself from inflation. TIPS and a cheap gold ETF are a great way to diversify your portfolio and provide some protection against inflation.

4. If you plan to retire in ten years or less, be VERY conservative. Personally, I would not hold more than 20% of my portfolio in stocks if I were planning to retire in ten years or less. The risk of overwhelming losses is just too great, and you won’t have time to recover. Younger people will.

Disclaimer, and a Question

I’m not a financial adviser. I’m a self-taught investor, and as such, I believe that under no circumstances should an investor panic and allow herself to act irrationally. But what works for me may not work for you. You should definitely do your own homework and decide for yourself.

Do you have a plan in case there’s a second recession? Are you worried?

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{ 15 comments… read them below or add one }

Jonny | thelifething.com September 2, 2010 at 8:40 am

The markets tend to get scary every 10 years like clockwork, thats the problem with having a financial system based on debt, greed and fear.

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TwinsMama September 2, 2010 at 8:44 am

I so agree with this post. It translates into so much more than just money. It can be panicking about career choices, where to live, whether to buy a house, etc.

Fear can be a killer of any plan you have if you let it. Sure, most of us (myself included) have acted out of fear at some point in our personal financial management, only to realize we made an absolutely terrible choice.

This article is a great reminder of how important it is to keep fear out of your financial plans and execution.

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Moneymonk September 2, 2010 at 9:34 am

Do you have a plan in case there’s a second recession? Are you worried?

Not for a second–debt free, Nice income , savings is intact

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Goal Jungle Girl September 2, 2010 at 11:00 am

Sometimes it seems easier to panic and plan for the absolute worse (aka, the zombie apocalypse armageddon social collapse)…rather than for what’s likely. The worst tragedy would be living the next five years in such fear that you limit the potential of the rest of your life.

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Jenna September 2, 2010 at 11:05 am

I’m not too terribly worried, no debt, steady income, happy social life.

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KM September 2, 2010 at 11:59 am

My only investments are mutual funds and a paid-off condo that I am renting out. Sure, both decreased in value, but I am not really worried. The condo will go back up in value eventually, and even if it doesn’t, I am making money on it in the meantime.

The mutual funds…I kinda got lucky on. Right around the lowest point of the stock market last year, I decided to split my funds and invested 75% of my original fund (which I began in 2003 when I knew nothing about anything but thought it would be a good idea to start investing early – I was 17) into one with much higher growth potential (but also higher risk). What happened was that it fell to a quarter of what it was 2 years before that, so I figured if it gets back to where it was, I would get a 400% return. Very soon after I purchased shares in that fund, it went up by 200%. Now it’s at about 150% of what I purchased it for and I am pretty sure it will keep going up in the long run, so I am rather happy about when I transferred the shares.

I think as I get older and learn more, my investments will expand, but I have learned from mistakes of others that selling everything when things start going downhill results in a loss, even if it seems grim being at the bottom. The point is, you can’t regain that loss if you pull out of the market when things are bad for the fear of losing everything. You have to let it take a hit and ride it back up, eventually. As long as you have time to do that, of course.

Now I actually want to invest into more mutual funds or stocks while the prices are relatively low. I have some savings from working during the summer, but I am on the fence in regards to whether to invest a part of it or just leave it and invest when I go back to full time in spring.

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vered September 2, 2010 at 2:50 pm

“Selling everything when things start going downhill results in a loss, even if it seems grim being at the bottom. The point is, you can’t regain that loss if you pull out of the market when things are bad for the fear of losing everything. You have to let it take a hit and ride it back up, eventually. As long as you have time to do that, of course.” –> Yes, yes, YES. Only 24 and so incredibly smart.

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Patricia September 2, 2010 at 6:59 pm

I am working on not worrying, but we have had better luck with real estate – solid things like office buildings that are full, than in the market so have kept our investments at about 25% Whereas my older brother and sister seem to be riding a nicer wave and have done better in the market than we have. Plus I should say one is a retired police officer and the other retired teacher, both with extra jobs in retirement. Now that we are in our 60s and can not retire until mid 70s to regroup from this last downturn (hopefully work will improve) it feels very much like gambling and I am not good at that ever.

As I open my big mouth and keep sharing our situation, I am finding more and more of our friends are in the same boat that we are…the emotional factor of being 60 and in such a loss position is keeping so many silent and hugely embarrassed… We need some suggestions of how to be 60 and get through our senior years. We did everything right…

How about a post for those of us in this situation, and not funded by Federal, State, County or City funds….Teachers are in better shape that we are …come on you money gurus and genius’ we are not the “wealthy” seniors or middle class any more…and it is very hard on our psyche.

Thank you

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Seo Guru September 2, 2010 at 9:32 pm

Worrying about the situation is natural but the action that you may take because of that is reflects your personality. I mean, yes, I am worried but just be calm about it and think of what must be done to counter it. Knowledge is a tool that you can use in times of difficult situation for without it, you may end panicking.

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Claudia M. September 5, 2010 at 6:56 pm

You actually have a friend who is so afraid of a coming recession that he gave a good portion of his investments to some guy he’s never met in Australia? Whether another dip is coming or not, this is the most astonishing form of financial suicide that I’ve ever seen in print.

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Wade Dokken September 5, 2010 at 8:04 pm

Most investors today are concerned about a repeat of the last 12 years–negative equity returns and 30% loss in real purchasing power from equities.

Wade Dokken

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Aleks September 7, 2010 at 3:01 am

I am not sure whether I can agree with point 1. Isn’t timing also part of investing? Considering the cyclical movements of the markets, is it not for a part the challenge, or necessity, to identify the cycles, and to buy or sell accordingly? For example, what happened if you had bought CoCa-Cola (KO) shares in 1998? They were sold at a price of $85.50. Today, CoCa-Cola is traded at $57.56. That is 12 years later.

I feel that many of the well-known gurus or specialist, such as Benjamin Graham or Warren Buffett, had their greatest success in the 70’s, 80’s, and 90’s. Then, generally stocks would go up steadily, and a buy-and-hold strategy made sense. But times and technology change. Stocks are available to a much broader public, day trading has never been as popular as before, and stocks have become much more volatile. If we adopt the buy-and-hold strategy, which might work for many people, we are still applying an investment strategy which was developed in a very different market situation.

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Kevin Cimring September 8, 2010 at 4:17 pm

Hi Vered, in times like these its very difficult not to let the emotions take over. But as you say, staying calm and sticking to sound investment strategies is the only way to go. Irrational and sudden decisions often lead people to sell at the bottom and buy at the top – which, as we all know, is not the way to go.

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Aleks September 9, 2010 at 12:12 pm

Hi Kevin, you don’t have to sell at the bottom. Just install a stop-loss for your stocks, so they sell when they get below a certain level. And as long as the stock is going up, adjust the stop-loss continuously upwards. Isn’t it rather an irrational decision to hold on to your stocks, seeing them drop day by day, hoping that things will recover in 2, 3, 10 years, or perhaps never?

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Blue Spyder November 6, 2010 at 4:55 pm

Isn’t it funny, the people who sell these fears the most all have something to sell you at the same time? Glenn Beck main suspect.

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