With the current COVID-19 Pandemic persistent in the world and countries imposing a lockdown on their citizens, a recession is an inevitable occurrence.
The world economy is supposedly facing one of the greatest crises in the history of mankind.
Where previous recessions were man-made, the one that the world is going through right now is because of a dangerous virus whose antidote is yet to be formulated.
It has been asserted by the UN Department of Economic And Social Affairs that the global economy is expected to shrink by 1% this year due to the virus and it may contract even further if restrictions on economic activities are extended. Also, global supply chains and international trade are on a halt, further causing an economic downturn.
A recession is defined to be a period of negative economic growth where a booming economy experiences a slowdown and the trickle-down effects are bared by businessmen and customers alike.
However, few are aware that recessions too come along with certain benefits.
Investors, for one, can benefit from a recession if they manage their portfolios well and conduct proper research before investing in the stock market.
Recession being a part of the business cycle is bound to suppress and give way to market recovery. And an investor can extract advantage from a recession and position himself for the next economic recovery.
What are the advantages of investing during a crisis?
Experts advise that the ideal time to build your portfolio is when investments are beaten down and valuations are strong. There exists an inverse correlation between long-term investment returns and the valuation of the market at the time the portfolio is acquired.
The lowest valuations have the highest expected returns. You should build your portfolio when securities are “on-sale”. It is during the time of crisis that one can pick up stocks, bonds, mutual funds, real estate, and more for far less than you could in the past.
Warren Buffet, an American magnate, philanthropist, investor and the CEO of Berkshire Hathway, in one of his shareholders’ meeting, asserted that it was when the world was facing the challenges of dealing with the inflation in 1980 and the Great Depression of the 1930s, most of the people made great fortunes.
Investing in a crisis is an extremely risky activity to undertake, as the scope and time of recovery are uncertain. Investors might not buy at the absolute bottom, and it is essential to buy little by little and not pour all your capital in at once.
According to traditional finance theory, individuals behave rationally to maximize utility. However, during an economic crisis, people become irrational and emotional in their thinking.
Behavioral finance contradicts this finding of financial theory and asserts that people are more loss-averse than risk-averse, which to put in simple words means that individuals feel the emotional pain of a loss much more than the pleasure gained by an equal-sized profit. Hence, they refrain from taking a risk by investing during a crisis.
Even after recovery has begun, individuals still hold on to emotional biases; according to a survey conducted by an online broker, 93% of millennials distrust the market and are underconfident about investing.
While others panic, those with a shrewd sense of investing can see low prices as a buying opportunity. Buying assets from the restless and fear-driven individuals is like buying them on sale, as the prices which they sell at are below their fundamental or intrinsic values.
Investors who buy from them are rewarded as they wait for the prices to revert to their expected levels when the crisis subdues.
Research conducted on the 28 global crisis in the previous decade which includes the German invasion during World War II, and the terrorist attack of 9/11; has shown that markets have over-reacted during such crisis and those who sold their assets had to buy them back at higher prices, whereas patient investors benefitted.
It would benefit to take a look at the case of a successful businessman, John Paulson, who was a hedge fund manager and became famous for taking up a magnificent bet against the US housing market.
Because of this bet, he made his firm Paulson & Co. worth an estimated $2.5 billion during the crisis. He took advantage of the 2009 recession and bet on the successful recovery of the economy by establishing a multi-billion dollar position in Bank Of America, along with a $100 million position in Goldman Sachs. He also invested in gold, JP Morgan Chase, CitiGroup, and other financial institutions.
After the crisis was averted, he boasted huge gains in the big banks he had invested in and the fame helped him bag investment management fees for himself and the firm.
Economic recessions are bound to take place, inflations and deflations are inevitable, however, to profit from investing during a crisis require patience, discipline, enough market information and wealth in liquid asset to purchase from others.
Only a few can benefit from a falling market, and foresightedness can help you make profits in any given situation. However, it’s important to have the courage and intellect to take risks and be responsible for them.
About Author: Hey there I am Pranav, a 20-year-old hailing from India who loves Technology & Entrepreneurship. I write lucid tutorials and trick pertaining to Smartphones, Computers and what not. Check out my blogs at https://hitechweirdo.com/ and Follow me on twitter https://twitter.com/PROnavRajput