It’s hard to believe time has passed so quickly. Ten years ago the subprime mortgage crisis led the U.S. economy into a severe recession and carnage ensued. Many people lost their homes along with huge portions of their retirement savings. Credit markets froze and taxpayer money was used to purchase toxic assets from the very banks that facilitated the crisis.
A decade removed from the great recession, what takeaways can help you succeed financially and prepare you for the next economic downturn or recession?
- Only you have your best financial interests in mind. Banks were more than willing to lend money to under-qualified borrowers, and this resulted in skyrocketing foreclosures when interest rates increased on adjustable rate mortgages (ARMs). Some argue that banks were negligent in persuading under-qualified buyers into taking on supersized mortgages. This certainly could be the case, but it hammers home an important lesson: Understand your financial choices and don’t rely solely on someone else’s opinion to guide you, especially if they are in a position to make money off of you. Educate yourself before you pay someone for their financial guidance, as this will better allow you to see if your adviser is pursuing your best interests or his.
- Diversify your investments. Plenty of folks who planned to retire in 2008-2010 had to delay retirement due to seeing their 401(k) plans shrink drastically as the equity markets plunged. This meant several more years of work for this group. What if, though, this group had rental property as an additional source of income for their retirements? The recession economy saw an increase in renters, resulting in increased income for rental property investors. These rental property investors could choose to withdraw a smaller amount from their 401(k) plans while relying more on the increased cash flow from rental property investments. While I’m not advocating only for rental property investments as a source of retirement income (it certainly is a great option), I am advocating for a multiple-legged stool for your retirement portfolio that does not leave you in an anxious place should an investment class take a plunge.
- Invest more than you need. I’ve never heard anyone complain that they invested too much. In the case of workers who had to postpone retirement due to the Great Recession, many of them could have continued with their retirement plans had their nest eggs been larger. While this may go into the “thanks for the insight, buddy” category, your savings and investment rate is a better determinant for your success than rate of return: http://www.thesimpledollar.com/five-most-important-factors-for-investment-success/
- Follow your plan, not your emotions. The S&P 500 lost about 57% of its value from October 9, 2007 to March 9, 2009, the day the index bottomed out during the Great Recession. Thankfully, I didn’t check my retirement account balances much during this time, mainly because I had barely entered the workforce after graduating from college. My plan, though, was to continue working for at least three, if not four, decades more until I retired, and equities with all of their volatility were the foundation for growing a large enough nest egg. The S&P 500 took four years to reach its value on October 9, 2007 and has grown much more in the current bull market. Investors who made an emotional decision to sell during the recession likely missed much of the growth during the subsequent recovery and likely missed the opportunity to purchase shares of the S&P 500 while they were on sale. Recessions and downturns in the economy can be very anxiety inducing if you don’t remember that these are terrific opportunities to buy shares on the cheap and that the market provides substantial returns in the long run. The past 30 years saw the S&P 500 return 11.66% (10.19% geometric return) with dividends reinvested.
For a terrific read about the subprime mortgage crisis and its causes, read The Big Short by Michael Lewis. The book will hammer home my first point regarding educating yourself on financial decisions, especially major ones like taking out a mortgage. While I think the majority of people in finance are well-intentioned, great people, The Big Short shows that there are individuals who will seek to take advantage of you (as there are in any industry). While the financial industry may or may not be in a better position to avoid a similar crisis, you can certainly prepare yourself to not only avoid making bad decisions during a recession, but to take advantage of the opportunities presented by an economic downturn.