Recession means it's time to review your savings

So it’s finally happened. After several months of speculation as to whether the UK was heading for recession, we’re officially in one. Gross domestic product fell 0.1% in the three months to June, and the Bank of England is expecting a similar decline in the third quarter as consumer spending and manufacturing output fall.

Recessions are never comfortable experiences. But they’re always a very good time to reassess your finances, and particularly your savings and investments. Here are three key reasons why.

1. You’re going to need a cash cushion

So far, the economic situation hasn’t had much impact on the jobs market. But redundancies are a feature of every recession and, however secure you feel in your job, there’s no guarantee that you won’t be affected. To some extent, the older you are, and the larger your salary is, the more at risk your job security is going to be.

It’s very important, now especially, to have a cash buffer. Ideally you should have at least three, and preferably six, months’ worth of ongoing expenses in an easy-access savings account, in case you or your partner is made redundant.

If you don’t have that much saved, you should make saving an absolute priority. The good news is that after many years of meagre savings rates, banks and building societies have been steadily raising the amount of interest they pay. Most, but not all, of them have responded to last week’s 0.50% rise in the Bank of England rate, so shop around to ensure that the deal you have is competitive.

2. Your retirement pot has fallen in value

This recession hasn’t suddenly sprung from nowhere. Factors such as the war in Ukraine, the fuel crisis, and rising inflation and interest rates have caused global and bond markets to fall since January.

Almost everyone in defined contribution pension schemes and with personal will have been affected. The blunt truth is that, unless you invest more money in the years ahead, your eventual retirement pot will be smaller than it would have been had it not been for this economic downturn.

Reviewing your investments is especially important if you’re planning to retire in the next two or three years. If you haven’t done so already, work out what you want to do after finishing work and what sort of lifestyle you aspire to. It may be that you’ll either need to invest more each month or work for longer, or possibly both. If in you’re in any doubt, you should seek the help of a professional financial adviser with specialist expertise in retirement planning.

3. Recessions provide an investment opportunity

It’s natural, when markets fall and all the economic news seems gloomy, that people are anxious about investing in equities. You may feel tempted to to reduce your market exposure and stop investing on a regular basis. But doing either would almost certainly be a mistake.

Stock markets respond to new information. All the information that’s currently out there is already incorporated into the prices that companies are trading at. The markets have been allowing for the strong possibility of a recession for a while. Also, markets are forward-looking. So, by the time you’ve repositioned your portfolio, the markets may have started to rise again, and you’ll miss out on that recovery.

The other key message is, keep drip-feeding money into equities, preferably via low-cost equity index funds. If at all possible, try to invest a little bit extra every month. Remember, because markets have fallen, you’re buying in cheaper, and you’ll be be better placed for when prices start to recover.

Focus on your long-term goals

A final word of advice. We’re in the eye of an economic storm right now, and the tendency at times like these is to assume that the storm will last indefinitely. But history tells us that recessions and stock market declines are perfectly normal events that come and go with surprising regularity.

Of course, your immediate focus is on the here and now — protecting your income and budgeting wisely. But this storm too will pass. So stay clam. See the bigger picture. And focus on your long-term goals.