Ramit Sethi, host of Netflix’s “How To Get Rich” podcast and author of the New York Times bestselling book, “I Will Teach You To Be Rich,” has guided people through several recessions, and he’s learned a lot along the way.
In a recent video, he reveals crucial information on what to do when the economy suffers a severe downturn. Here’s what Sethi said he would never do this in a recession.
He’s not the only expert with tips on how to survive a recession, either.
There are a number of factors that come together to make a recession happen, but the one that investors notice — and fear — the most is a sharp decline in the stock market. Investors see the accounts they spent years building, dollar by dollar, drop sharply, sometimes in a matter of days. The knee-jerk reaction is to take their money out of the market at put it somewhere “safe” like a bank.
“Every time the economy crashes, you will see people panicking. They’ll say things like, ‘I know the economy recovered in the past, but this time is different. It’s over,’” Sethi said on the podcast. “In 2008, it was the housing market collapse. In 2020, it was COVID. Now it’s AI, layoffs, inflation, politics. And if you scroll online, the panic genuinely feels real.”
“One of the most haunting examples I will never forget is reading the Bogleheads Forum during 2008, 2009,” Sethi continued. “This is a forum that’s focused on sensible, low-cost, long-term investing… They just invest for the long term. They do not get panicked.”
Sethi notes that when the market begins to decline day after day after day, people get scared and question the beliefs that have served them well up until then.
“We saw otherwise sensible people snap and sell everything,” he said. “Those people will never financially recover.”
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If you look at the historical performance of the stock market, you’ll see that every time there is a crash, the market eventually not only recovers its losses but goes even higher. The trajectory of the market historically is always up. But in the moment, when you’re looking at a sea of red on your statement, that truism can get lost. Until the recovery begins.
“Now, many of these investors eventually bought back into the market later, but by selling during the crash, they missed the fastest, most dramatic part of the recovery, the costly mistake that often takes decades to recover from,” Sethi said.
He cited this example: “If an investor had $500,000 in the market in 2008, and they simply held on through the crisis without selling, they would have seen it grow to about $940,000 by 2014, almost doubling their money despite enduring one of the worst financial crises in modern history. Instead, many panic sellers locked in catastrophic losses. That’s what happens when you let fear dictate your choices.”
Sethi would never sell during a recession. In fact, he would continue to invest regularly, buying more shares at a lower price through dollar-cost averaging.
“Fearful investors buy high when everyone’s going, ‘Oh, the market’s so crazy. They buy then,’” said Sethi. “They sell low when everyone’s scared, and then they repeat the cycle. That’s why the average individual investor has horrible returns compared to a simple index fund. They literally do everything wrong.”
If you are a value investor, this conundrum may sound familiar to you, and it should. Legendary value investor Warren Buffett is most famous for saying, “Be greedy when others are fearful, and fearful when others are greedy.” In other words, do the opposite of what everyone else is doing, and hold on to your investments through a crash.
Recessions are a fact of economic life. They’re going to happen from time to time, and there’s nothing investors can do about it. They can, however, be prepared for the next one. Sethi has some advice on how to do that.
He recommends building a financial foundation, or what he refers to as a ‘war chest.’ Step one is an emergency fund, which Sethi admits is not the most exciting part of your quest to become rich.
“I understand why people do not want to build an emergency fund,” Sethi said. “It’s a lot like flossing. I know I should do it, but I don’t… The higher you climb without a safety net, the further you fall.
Sethi offers this plan to build your emergency fund.
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Automate. Move money right from your paycheck into your savings and investments.
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Save aggressively, aiming for six to 12 months of fixed expenses in a high-yield savings account.
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Eliminate your anchors. These are the things that keep you underwater, like high-interest debt.
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Diversify your investments. In a recession, even when most things are going down, there’s usually something that’s going up. Diversification will ensure you have some gains.
Diversification doesn’t just apply to your investments. Having diverse income streams will help you in a recession, since layoffs increase, often across many industries. If your industry is among them, you could be competing for very few jobs along with a large number of other people.
Instead, Sethi recommends you go on offense with your money.
“I want you to look at your income as a skill, and you can build the skill of increasing your income,” the expert said. “You can do that by learning the skill of negotiating your salary, the highest ROI skill you can learn.”
You can also add another income stream, separate from your primary job.
“You can add income streams like side hustles or a small business that diversifies your risk,” Sethi said.
By preparing now for the recession that will inevitably come — maybe in a year, maybe in five years, but eventually — you can be ready to not only survive it but to thrive by taking advantage of a down market. You’ll be in a position to be greedy while others are fearful, and will likely emerge in a better place than where you went in.
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This article originally appeared on GOBankingRates.com: This Money Expert Would ‘Never’ Do This in a Recession: Should You?
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