It has been a scary few weeks for investors. The US stock market crashed as the COVID-19 outbreak spread around the world. We finally figured out the US isn’t going to escape unscathed this time. Now, schools are shuttered, businesses are closed, sports season canceled, and many people are hiding out at home. The US economy is grinding to a halt. Businesses will lose a lot of money until this pandemic is under control. Regular people will suffer too. Many US households don’t have enough savings to get through this. The government is going to help, but I think it will get very ugly for many families. Even well off households will be hit hard. Retail investors already lost a large chunk of their portfolio. Unfortunately, it’s not over yet. The global stock markets will crash more in the weeks to come. It will be painful for everybody except for Clorox and 3M employees.
The US stock market has been on a great run for 11 years. Lots of people never went through a crash like this and many of us forgot how to deal with it. That’s why we all need a refresher on how to survive a stock market crash.
Recession is coming
The 2020 coronavirus crash is the worst kind of news. It signals that a recession is coming. Corporations are losing a lot of money from social distancing and there will be layoffs very soon. Also, US businesses have a record amount of debt, 10 trillion dollars. What happens if you have a ton of debt and no customers? Easy, many companies will go out of business. Don’t be surprise if you see lots of bankruptcies over the next few months. That’s why it’s time to plan right now. What will you do if you get laid off?
Cash is king in a recession. An emergency fund is more important than ever. You should have enough money to pay at least 3 months of bare-bone living expenses. This is the top priority. The problem with a recession is it’s hard to find a new job. There will be a lot of unemployed people looking for a dwindling number of jobs. It won’t be easy if you get the pink slip.
- Track your expenses and figure out a bare-bone budget. One common mistake people make is to continue spending like nothing is wrong. Don’t do this. If you get laid off, cut back severely and spend as little as possible.
- Save up at least 3 months of bare bone living expenses. We spend about $4,000/month on average, but we can cut down to $2,500 if we have to. So we need at least $7,500 in cash (saving account) in case our income disappears. You need to do something like this. More cash is better when a recession is looming.
- Read up on unemployment benefits, every state is different. They’ll help a lot. The government probably will step in and extend the unemployment benefits if the recession is severe. Gig workers and self-employed people are probably out of luck.
- Net work with your old friends and coworkers now. They could be a lifeline to a new job.
- Figure out health care if you get laid off. This is even more important with the COVID-19 pandemic. If you don’t have health insurance and get sick, it will destroy your finance. The government said they’ll help, but I don’t really trust them to get it right. It’s better to have health insurance. I think COBRA is a good option for a few months. It’s very expensive, though.
- Get rid of credit card debt if possible. Hopefully, you don’t have much debt. If you can pay them off, then do it while you still have a job. Once your income dries up, I’m not sure what you should do. Other bills will be higher priority than paying off debt at that point. You might have to just pay the minimum (or default) if you have credit card debt and no income. Your credit score will be screwed up, big time.
Investing when the stock market crashes
Now, let’s talk about investing. It’s been 11 years since the last stock market crash. Many investors haven’t been through this kind of drop. It’s scary to see your retirement fund and investment portfolio decrease in value. Even seasoned investors get nervous with a hard & fast stock market crash like this one.
During the 2008 global financial crisis, our net worth dropped 30%. That’s a huge percentage, but that was a slower drop. About $250,000 disappeared from our investment accounts. However, we had a great income. I was an engineer and my job was pretty secure. My wife’s job was even more secure. So we didn’t worry about getting laid off. We saved aggressively and kept buying stocks during the downturn. It paid off and our net worth increased significantly over the last decade.
This time, I’m more conservative because I don’t have a steady paycheck anymore. My blog income probably will drop significantly when a recession hits. Fortunately, Mrs. RB40’s job is very secure. She won’t get laid off unless things get a lot worse. Even that might not be too bad. They’d probably offer her an early retirement option since she’s been there for a long time. Actually, that would work out very well for us. Anyway, our income is smaller now and our portfolio is much bigger. That’s why I diversified our portfolio a bit over the last few years to become more conservative.
From February 19th to March 12th, the S&P 500 index lost about 27% of its value. That’s bad. During the same period, our net worth dropped about 14%. That’s better than the stock market, but it’s still really scary when I look at the dollar value. In less than a month, we lost over $400,000. Our portfolio is much bigger now than in 2008. Even a smaller percentage drop means a lot more dollars lost. If we had 100% in equities (stocks), we’d be down even more.
Stock market crash strategy
Your strategy will have to change as you age. In 2009, we had 100% invested in the stock market and we kept buying when the market crashed. That same strategy isn’t a good fit for us anymore. Now, we’re more diversified and I’m timing the market a bit. You need to come up with your own strategy, but here is my plan.
Cash is king
If you will need money in the next few years, don’t put it in the stock market. For example, we will need a large sum when our son goes to college in 2030. When he’s in high school, we’ll be a lot more conservative with his college savings and move most of it into bonds. Fortunately, he still has 10 years left. For now, all his college savings are 100% stocks.
Young investors (20 to 40 years old)
For people under 40, you shouldn’t worry about this stock market crash at all. Just focus on saving as much as you can and keep investing. This is a great time to average down. The stock market will recover by the time you need the money. Just ignore the news and keep buying.
At this age, focus on improving your skill set and increasing your income. You need higher income to increase your investment.
For now, don’t worry about how your portfolio is doing. No matter how much money you lose, it will look like small change when you’re 60. I’m assuming most young people portfolio is relatively small. I’d recommend 100% stocks if you’re young. This is the chance to learn how to ignore the volatility. This won’t be the last time the stock market crash.
Middle age investors (40 to 55 years old)
This is a tricky age range. Some people are still struggling financially, but many are doing quite well. If you’re struggling, you probably need some help. Educate yourself about investing or find a good financial advisor you can trust.
On the other hand, some investors are doing very well at this age. Luckily, we’re part of this group. Our portfolio is larger now so we don’t invest 100% in the stock market anymore. Now, we have rentals, real estate crowdfunding investment, REITs, international stocks, and intellectual properties. When the stock market crash, our net worth doesn’t drop as much because we have some alternative investments.
Our strategy also changed. In our brokerage accounts, I usually hold 70% stocks, 20% bonds/cash, and 10% alternatives. When the stock market crashed, I started going back into stock in tranches. Here is my personal guideline. (I don’t follow this religiously. It’s just a guideline.)
- S&P 500 index new high – 70% stocks, 20% bonds/cash, and 10% alternatives
- S&P 500 index dropped 10% – 70/20/10. Stay the course.
- S&P 500 index dropped 15% – 75/15/10. Start buying.
- S&P 500 index dropped 20% – 80/10/10. Buy more. <<< 3/15/2020
- S&P 500 index dropped 25% – 85/5/10. Keep buying
- S&P 500 index dropped 30% – 90/0/10. Getting nervous, but keep buying.
- S&P 500 index dropped 35% – 95/0/5. All in!
- S&P 500 index dropped 40% – 100/0/0 stocks. Really all in… (I don’t count the stuff I can’t liquidate here. For example, we still have our rentals.)
I don’t think it will get down below 40%, but you never know. At that point, there will be plenty of quality stocks on sale. This is my strategy. We don’t plan to withdraw from our portfolio for 10+ years. That should be enough time for the stock market to recover.
For you, I’m not sure if this is the right strategy. If your income isn’t secure and you might need to sell some stocks, then you will have to be more conservative. If you can’t stomach the volatility, then you will need to be more conservative as well.
A better strategy for most investors is to find an asset allocation you can live with and just rebalance occasionally. That’s easier and more methodical. Anyway, figure out a strategy because you’re going to need it.
Investors near retirement (55 to 70)
At this age, you really need to be much more conservative. The sequence of returns risk is very high when you’re near retirement. Basically, if you retire in 2020, your portfolio will be depleted much quicker than in 2012. Try to put off retirement until the stock market recovers if you can. Investors in this age range should have more allocation in bond and cash.
Many early retirees I know have at least 1 year of living expense in cash and 3 years in bonds. This will enable them to ride through most bear markets and avoid selling stocks when the price is down. We’ll probably do this when we’re 55.
- Cash – 1 year of living expense
- Bond – 3 to 5 years of living expense
- The rest? You’ll have to find an asset allocation you can stick with. I’ll probably keep the same 70/20/10 allocation for the rest of our portfolio.
At this age, you’re dependent on your portfolio. You will need to be even more conservative. I haven’t figured this part out yet. It’s too far away for us. We’ll probably go down to 50/50 or something like that. At that point, it’s all about wealth preservation.
The stock market will crash even more
It’s not looking good as I’m writing this post. The Fed cut interest rate to almost 0% and started QE4, but the stock market futures crashed. It’ll be another bloody Monday on Wall Street, most likely. This is why you need a plan. If you don’t have a plan, you will feel lost and panic will set in. Investors will dump stocks. The recession is going to kill profits this year so people are really scared now. Regular people can see life is going to be tough because so many places are shut down. However, if you are a long term investor (10+ years before you need the money), this is the time to buy (in tranches.) It will pay off when the stock market recovers.
Do you have a plan for the next few months? The stock market will get worse before it improves so brace yourself for more pain to come. Stay safe and do your part to help control the COVID-19 pandemic. Please keep away from other people and wash your hands often.
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