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Photo: Reuters
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The biggest money mistakes people make in a recession

Facing a downturn is hard enough without falling into the common traps in the way we save, invest and spend our money

Many people are facing a situation they haven’t had to deal with in a long time: an economic downturn. And they need help navigating it.

So we reached out to financial advisers, researchers, academics and other experts and asked them a simple question: What are some of the biggest mistakes people make in hard times, and how can they avoid them? After all, facing a downturn is hard enough without making it even worse by falling into common traps in the way you spend, invest and save.

As you’ll see, the mistakes range from the big to the small and cover a wide array of practices and situations. Not everyone has the luxury of making some of these mistakes. But hopefully, they will make you think as you find your path through the coming months. And ideally, avoiding any of these mistakes will make your economic troubles a little less painful and the eventual recovery a little more robust.

Refusing to Tap the Emergency Fund

An emergency fund helps make tough times a little better, but two groups of people fail to fully leverage their savings.

The first group are those experiencing economic hardship and who choose to live uncomfortably rather than access their savings. This happens when their saver’s mentality—the same one that helped in building an emergency fund—makes the emergency fund seem sacred and unavailable for use. A better framework for thinking about the use of such funds is viewing it as a reward for disciplined saving in good times. Isn’t this why you had the emergency fund in the first place?

A second group of people are those with well-funded emergency savings but who aren’t experiencing economic hardship. These individuals should consider investing a portion of their emergency savings during a recession at lower stock-market prices to further strengthen their long-term financial position. This also applies to retirees with at least two years of living expenses in cash.

Peter Lazaroff, chief investment officer at Plancorp, St. Louis

No Re-Entry Plan

Investors often sell out of equities during a downturn without a plan of when to buy back in. It’s impossible to tell when exactly the markets are going to recover—witness the rapid bull market since late March—but you need a plan. While everyone’s situation is different, a phased approach could be the way to go, slowly moving back into equities. You also might want to consider letting someone else manage the portfolio for you (if you’re prone to react to market movements), which could mean something like a target-date fund or managed accounts in a 401(k). Or a financial adviser or robo adviser for moneys outside a defined-contribution plan.

David Blanchett, the head of retirement research for Morningstar Investment Management in Lexington, Ky.

Ignoring Your Credit Score

One mistake we make during a downturn is not paying enough attention to our credit score. But this is what affects the interest rate we get on our mortgage and credit cards, as well as whether we’ll be able to get insurance or even rent an apartment. So it is important, even during difficult times, to try to pay bills on time, not max out on credit cards, not open several new credit accounts in a short period of time, and keep a good financial history as much as possible. Keeping our credit score from dropping can save us thousands of dollars over time in interest and fees.

Annamaria Lusardi, university professor at George Washington University in Washington, D.C.

No Retirement Funding

People get scared and halt contributions to their 401(k) and/or individual retirement accounts. They miss the opportunity of buying low and accumulating more shares.

Jim Miller, president of Woodward Financial Advisors, Chapel Hill, N.C.

Let’s Not Talk About Money

With the pandemic forcing millions of people world-wide into financial distress, a natural response may be to avoid conversations about money at all costs. However, our research suggests that discussing money with your partner in hard times can help your relationship and finances if you approach these discussions the right way.

First, set aside a regularly scheduled time to discuss financial matters. Planned conversations are more effective because both partners can prepare and anticipate the coming discussion, leading to exchanges that are calmer and more constructive. Further, planned conversations help couples see their financial challenges as a shared problem (e.g., “Our income decreased by 50% last month") rather than an individual problem (e.g., “You lost your job last month"), and this shared perspective results in greater collaboration, and, ultimately, better financial recovery and less relationship conflict.

Grant Donnelly, assistant professor of marketing at Ohio State University in Columbus, Ohio

Career on Hold

The wait-and-see mind-set hinders many people from proactively managing their careers during an economic downturn. They stay with companies due to loyalty, comfort and job security that isn’t always guaranteed. By seeking employment opportunities, individuals can affirm their value, test the economic environment, and make an informed decision regarding their current job situation.

Lazetta Rainey Braxton, co-CEO at 2050 Wealth Partners, New York

Hanging On to Losers

Investors sometimes hold on to losing positions with the notion of “getting back to even." But they often don’t know what that entails. A 20% decline requires a 25% rebound to get back to even, a 33% decline requires a 50% rebound, and a 50% decline requires the investment to double. If the prospects of other investments are more favorable, it is better to cut your losses quickly and redeploy the money into better ideas.

Greg McBride, senior vice president and chief financial analyst for Bankrate.com in Palm Beach Gardens, Fla.

Ignoring Fees

Not managing investment costs such as taxes and fees can be quite destructive in periods of lower returns. Often, investors fail to take full advantage of tax-loss harvesting opportunities during periods of volatility that can reduce future tax liabilities and compound future growth.

Ben McGloin, head of advice, planning and fiduciary services at BNY Mellon Wealth Management in Newport Beach, Calif.

Out of Sight, Out of Mind

Whenever there is a major market downturn, some people come to me with a secret: They don’t open their account statements or log onto their accounts. After all, they say that they intend to stay the course with their investments, so why endure the agony of seeing the decline in their balances? While this coping strategy may sound innocent, it’s risky. Even the smallest issues can lead to major consequences, if unnoticed and allowed to fester over time. For example, be on the lookout for account notifications and changes, investments requiring attention, erroneous transactions, and any suspicious activity. It’s always important to keep a watchful eye on your savings, investments and account security settings.

Catherine Collinson, CEO and president, Transamerica Institute and Transamerica Center for Retirement Studies, and executive director, Aegon Center for Longevity and Retirement in Los Angeles

Abandon Entrepreneurial Dreams

When the economy goes south, people typically hold back from starting a small business. Even though it may be counterintuitive to start a business during a recession, a downturn can be the perfect opportunity to access less expensive credit and get a discount on equipment. For example, public programs like the State Small Business Credit Initiative often expand during recessions to encourage entrepreneurs to start a small business. And since most recessions are short, laying the groundwork during a downturn can quickly pay off when the economy starts growing again.

Benjamin Harris, executive director of the Kellogg School of Management’s Public-Private Interface and former chief economist to Vice President Joe Biden

Attaching Emotion to the Family Home

Losing a parent can be particularly challenging during a recessionary period when finances are tight, you’ve lost your job, and/or investments are down. Emotions can run especially high for all those reasons—and that often clouds good decision making when it comes to keeping or selling a parent’s home. It’s important to view the home as a pure investment and release the sentimental value attached to it—as difficult as this might be. You need to ask yourself: If the home were not your parents’ home, would you buy this property? What’s the expected return? What risks come with this property? To the best of your ability, resist the emotional attachment and crunch the numbers.

Michelle Perry Higgins, a financial planner and principal at California Financial Advisors in San Ramon, Calif.

Early Withdrawals

Sometimes you have no choice, of course. But too often, making early withdrawals from a retirement-savings plan is one of the first places people go instead of one of the last. The problem is that early withdrawals rob your future self of tax-deferred growth. Through the power of compound interest, the more you save, the more your savings grow over time. And even though the penalty for early withdrawals from a 401(k) plan is currently waived under the Cares Act, those pretax savings will still be taxed as earnings within the year of withdrawal.

Chad Parks, founder and CEO of Ubiquity Retirement + Savings in San Francisco

Farewell to Free Time

Recessions not only shape how we spend our money, they also shape how we spend our most important resource: time. When we are feeling cash strapped, we focus on making more money, even if it comes at the expense of our free time. This hyperfocus on cash can come at a cost to our social relationships, happiness and physical health. Resist the temptation to sacrifice everything for cash. Make sure you are careful with how you spend your moments as well.

Ashley Whillans, an assistant professor at Harvard Business School in Boston

A Tendency to Overcorrect

During an economic downturn or a recession, it’s easy to overcorrect due to anxiety and fear. Like driving a car on ice, overcorrecting can make a bad situation worse and present a whole new set of problems. For example, if you’re worried about spending, you can cut all the fluff out of your budget and try to watch every penny, but miss opportunities to improve your income through networking or improving your skills.

Roger P. Whitney, financial adviser at Agile Retirement Management, Fort Worth, Texas

Budgeting the Bonus

One big mistake that employees make is expecting to get a full annual bonus from their employer. If your bonus is over 20% of your annual income, don’t include this money in your overall family budget. Many companies shrink or eliminate bonuses in a downturn—and some already are doing it during the pandemic.

Ted Jenkin, CEO and co-founder of oXYGen Financial in Alpharetta, Ga.

Keep Paying All Your Subscriptions

Many people set their bills on autopay so they don’t forget to pay them. It is easy to “set it and forget it" during times the market is up, but what about times when the market is down? For instance, do you have cable in addition to Netflix, Amazon Prime or Hulu? Figure out which service you can’t live without and cancel the rest. Remember, you can always join them again when the market isn’t so volatile.

Cynthia Pruemm, investment adviser, founder and CEO of SIS Financial Group in Hoffman Estates, Ill.

Thinking Big and Bold

During a downturn, many may see their portfolio decline and feel a need to compensate with drastic cuts to retirement spending. While it is not a bad idea to ensure that one had a reasonable income plan in place to begin with, when it comes to making spending adjustments, small but permanent cuts are generally more effective than large but temporary cuts in improving portfolio longevity. For example, reducing spending by 3% (akin to forgoing an inflation adjustment) when one’s portfolio is down and maintaining that cut going forward will have a larger long-term impact than a short-term spending cut of 10% to 15%.

Derek Tharp, an assistant professor of finance at the University of Southern Maine and the founder of Conscious Capital

No Change in Strategy

One of the biggest mistakes investors make is updating their investments without updating their financial plan and investment policy statement. This is akin to taking a new prescription, or changing your dosage, without first consulting your doctor and documenting the change. Your investments shouldn’t change unless your policy statement changes. And that policy statement shouldn’t change unless your financial plan changes. While taking quick action might seem prudent in a downturn or recession, the long-term impact can often be damaging and, in some cases, irrecoverable.

Taylor Schulte, founder of Define Financial in San Diego

Fear of Volatility

Investors often confuse risk of loss with volatility. Risk of loss means investing in an enterprise whose value goes to zero as a result of business failure or bankruptcy. Volatility is the price variation in stocks. Sometimes, volatility can be unnervingly high, like in March 2020. But, investors who confuse volatility with risk of loss can end up selling at the worst time in an effort to avoid losing money. Tragically, that act of selling will lock in the loss they hope to avoid. Investors who remain diversified in their investments will experience bouts of volatility, but risk of loss can be minimized or avoided.

Jared Snider, partner and senior wealth adviser at Exencial Wealth Advisors in Oklahoma City

No Rainy-Day Fund

A big mistake that many people make in a recession is the same mistake they make during expansions: not putting money aside when they can, so they can cover three to six months of expenses. You may not be affected by the downturn yet, but it’s possible you will be. In fact, it’s more possible than it has been in years, since in a recession unemployment and underemployment risks rise. So if you’re still working, don’t put it off any longer. Start saving.

James Choi, professor of finance at the Yale School of Management in New Haven, Conn.

Not Thinking About the Worst That Could Happen

During a downturn, some investors obsess over their investment accounts while others bury their head in the proverbial sand. But even during a market downturn, it’s important to “stress test" your financial plan, playing out worst-case scenarios to help give you the confidence your financial strategies have been built for success in a variety of market conditions. Stress testing can be a more reasonable response, highlighting the importance of finding an appropriate balance of risk assets along with more stable assets. A market-related stress test might model an immediate portfolio decline equal to the worst historical one-year drawdown for a client’s asset-allocation strategy.

—Malcolm Butler, president and CEO of Fiduciary Group in Savannah, Ga.

Failing to Tap Low Interest Rates

Recessions often lead to low-interest-rate environments, which present an opportunity to reduce monthly payments by refinancing mortgages, student loans and other debt. But consumers often overlook the possibility of consolidating or refinancing existing liabilities. Personal loans can be a useful way to consolidate multiple sources of debt into a structured payment plan. And just like recessions, the impact of consolidation is psychological as well: One loan and one payment seems far more manageable than a mountain of them.

—Nancy DeRusso, senior vice president and head of coaching at financial-counseling services firm Ayco, Irvine, Calif.

Not Taking Advantage of Roth Conversions

Whenever the stock market takes a drop, it never ceases to amaze me how little discussion there is about making a Roth IRA conversion. Downturns create a great opportunity to save on taxes. A simple example explains why. An investor in the 24% tax bracket holds 100 shares of a stock priced at $100. The taxes due on a Roth IRA conversion will be $2,400 ($10,000 of stock × 24%). A market drop occurs, lowering the stock’s price to $80. If the investor then does a Roth IRA conversion, their tax liability will be reduced to $1,920 ($8,000 × 24%).

Charles Rotblut, a vice president and AAII Journal editor at the American Association of Individual Investors in Chicago

Forgetting Benefits Outside Salary

In a recessionary environment, unemployment can put many in the tough position of trying to find the best-paying job quickly. But often, job seekers overlook company benefits outside of traditional financial compensation. Generous health-care and insurance offerings such as health savings accounts, a 401(k) company match and student-loan debt repayment support may not be top of mind during initial job negotiations, but they should be. Such perks could provide real financial value down the road.

Charlie Nelson, chief executive officer of retirement and employee benefits for Voya Financial in Windsor, Conn.

Renegotiating Debt

People often raid retirement investment accounts to pay off debt when they should be seeking assistance from lenders instead. Most lenders will lower minimum payments, drop interest rates or freeze payments for months.

Yanely Espinal, director of educational outreach, Next Gen Personal Finance in New York

Rushed Retirement

The worst mistake we see is prospective clients who retire without first crunching the numbers—either because they were laid off or they voluntarily took a severance package. Retiring blindly can be disastrous. Too often, people find out they have an unsustainable lifestyle. After reality sets in, they often are forced to begrudgingly re-enter the workforce, and in a much less-desirable position than before.

David Abate, a certified financial planner at Strategic Wealth Partners in Independence, Ohio

All Recessions Are the Same

Don’t believe that this financial crisis will be like the last financial crisis. People have a tendency to anticipate the future based on previous experiences. It’s called a normalcy bias, and it can be financially fatal. Two of the most dangerous investment attitudes in a recession or severe market correction are, “This time is different—the old rules no longer apply," and “This is going to play out like it did the last time around." There are too many variables involved to fully invest in either assumption. For instance, an investor who went to cash when the market dropped 25% in October 1929 was proven wise, as the market sank further and took 25 years to recover. An investor who went to cash when the market dropped 25% in March 2020 missed a rebound only five months later.

Rick Myers, founder and president of Integrated Financial Services in Grand Rapids, Mich.

Failing to Continue to Learn

When times are tough, it’s easy to get distracted and not think about your career journey. But employees need to carve out time, even if it’s just a few hours per month, to focus on career goals. Learning new skills, relationship building and really focusing on future trends will put you in the best position to seize an opportunity for advancement when it presents itself. Don’t be siloed by your past experiences; instead, broaden your thinking and focus on new challenges or responsibilities, regardless of your current job title.

Aditi Javeri Gokhale, Northwestern Mutual’s chief commercial officer and president of investment products and services in Milwaukee, Wis.

Going Without Insurance

During a downturn, people sometimes look to cut costs by temporarily dropping health-care coverage. That is particularly common among people who are self-employed and are concerned about how the economy is going to affect their business. But without health-care coverage, one unexpected illness or injury could be financially devastating. Instead, people should review their coverage to see if there are less-expensive plan options.

Shelly-Ann Eweka, a wealth management director at TIAA in Charlotte, N.C.

Not Rethinking Pension Payouts

Savers often fail to reconsider selecting an annuity payout vs. a lump sum when collecting pension payments. Low-interest-rate environments typically favor lump-sum payouts.

—John Voltaggio, managing director and lead relationship manager at Northern Trust Wealth Management in New York

Write to reports@wsj.com

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