Tariff concerns are affecting the stock market in the first quarter of 2025. And some economists say that a U.S. recession could be coming. While predicting a recession is hard, the National Bureau of Economic Research (NBER) looks for specific signs before officially declaring one. Recessions can cause job losses and hurt savings, making recovery difficult. But they are part of the business cycle, and knowing the warning signs can help you plan ahead.
It’s important to minimize the impact of a recession on your investment portfolio. Find a financial advisor who can help you today.
What Is a Recession?
In broad terms, a recession is a serious downturn in an economy that lasts longer than a few months. The technical definition is a period of at least two consecutive quarters of negative economic growth. As noted above, negative economic growth in these instances is measured by gross domestic product (GDP). Often, though, the term recession is used more broadly than that technical definition.
A recession will usually last for anywhere from six to 18 months. The duration can vary depending on the severity of the downturn, and what measures the country’s government and central bank (the Federal Reserve, in the U.S.) take to address it, among other factors. While a one-time event (such as the financial crisis of 2008) can trigger a recession, economic downturns are part of the business cycle and have many underlying factors.
What Happens During a Recession?
During a recession, it’s common to see stock prices fall and the unemployment rate rise. Stock prices fall because investors have less income to invest and less faith in the market to increase their investment. This decreases demand for stocks, meaning stock prices (and thus portfolio values) will naturally go down.
Business revenues also decrease during a recession, which leads many to stop hiring new workers or lay off some of their existing workforce. Many companies will go out of business altogether, further increasing job losses. This causes the unemployment rate to increase. A larger unemployed population as well as general economic unease leads to more consumers saving their money instead of spending it. This decrease in spending can cause business revenues to falter even more, starting the cycle anew.
One potentially positive effect of a recession is that the inflation rate typically falls. Inflation is the economic phenomenon that causes a currency to lose value, and it can decimate an economy if it gets out of control. Periodic dips in economic growth can keep the inflation rate from rising too high.
What Are Some Examples of a Recession?
Recessions happen when the economy slows down for an extended period, leading to job losses, lower consumer spending and declining business profits. Some well-known recessions in history highlight how economic downturns can impact different sectors.
The most prominent recent example of a recession is the coronavirus recession. The spread of the COVID-19 pandemic had major financial implications on the American economy, especially as shutdown orders began to be used around the U.S. This led market forecasts to become extremely unstable, which then caused a trickle-down effect into the stock market. This recession eventually became a global one, as the pandemic ravaged far more than just the U.S.
About a decade before then, the U.S. experienced the “Great Recession,” which lasted from the end of 2007 until 2009. According to most economists, this recession was directly caused by the bursting of the housing bubble in the U.S. As a result of this, unemployment rates skyrocketed and the U.S. GDP sank.
Recessions can also happen due to rising oil prices, interest rate hikes, or financial market instability. While they bring economic challenges, recovery usually follows as businesses and consumers adjust to new conditions.
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How Can You Predict a Recession?
Recessions are not easy to predict. But, economists watch for warning signs that suggest one may be coming. These are called leading indicators. There are also lagging indicators, which confirm a recession after it has already started. A key lagging indicator is higher unemployment, which happens when businesses cut jobs due to decreased demand.
One major warning sign is an inverted yield curve. Normally, long-term government bonds have higher yields than short-term ones. When this pattern reverses, meaning long-term yields fall below short-term yields, it shows a lack of confidence in the economy. An inverted yield curve has signaled every U.S. recession since 1970.
A decline in manufacturing jobs is another important signal. When fewer people buy manufactured goods, factories may cut workers or slow hiring. This slowdown often spreads to other industries, leading to further job losses. Falling home prices can also be a sign, as people become less willing to buy homes when financial conditions are uncertain.
Other signs of a recession include a drop in the stock market, which reflects lower investor confidence, and fewer new small businesses, which suggests people are hesitant to take financial risks. While no single factor guarantees a recession, a combination of these indicators can point to economic trouble ahead.
How Governments Deal With Recessions
The government can use both monetary and fiscal policy to help stimulate a lagging economy.
The government’s central bank handles monetary policy. To help kick-start economic recovery, the Federal Reserve will typically lower interest rates. This encourages individuals and businesses to borrow money from the government, which in turn can stimulate economic activity. If it’s cheaper to borrow money, it’s more likely that people will spend. Of course, in periods of high inflation such as the one we’re in, the Fed is actually hiking interest rates.
Fiscal policy refers to decisions surrounding taxing and spending. Congress can stimulate the economy by increasing spending or cutting taxes. During the aftermath of the Great Recession, the government engaged in expansionary fiscal policy. This involved the stimulus package that President Barack Obama spearheaded, as well as increased government spending and borrowing.
Some increased government spending is inevitable during a recession as a consequence of the higher unemployment rate. More people will be receiving unemployment benefits, so the government will have to spend more to supply them.
How to Protect Your Portfolio From a Recession
Though it’s impossible to recession-proof your portfolio, it’s possible to recalibrate your portfolio and make some investment choices that might benefit you in a recession. Here are four general tips that could help protect your investments.
1. Seek Out Core Sector Stocks
Don’t run away from equities completely. Want to insulate yourself during a recession? Try investing in stocks related to the healthcare, utilities and consumer goods sectors. These are necessities, and people won’t stop spending on these needs even in a down economy.
2. Focus on Reliable Dividend Stocks
Dividend stocks, including dividend aristocrats, can be a great way to generate passive income. When you’re comparing dividend stocks, some experts say it’s a good idea to look for companies with low debt-to-equity ratios and strong balance sheets.
3. Consider Buying Real Estate
The 2008 housing market collapse was a nightmare for homeowners. However, it turned out to be a boon for some real estate investors. Of course, interest rates and home prices are high at the moment. But a full-on recession should be accompanied by a health drop in home prices and a buying opportunity for investors.
4. Purchase Precious Metal Investments
Precious metals tend to perform well during market slowdowns. But since the demand for these kinds of commodities often increases during recessions, their prices usually go up too. This can be doubly beneficial in a time of high inflation. Businesses with ties to natural resources and commodities might be the most classic inflation hedge. Crude oil, timber, soybeans and precious metals are all good examples.
Bottom Line
While recessions can be difficult, recoveries do follow as consumer spending increases and jobs return. It’s important to stay patient and avoid impulsive financial decisions. Selling stocks out of fear may lead to missed opportunities when the market rebounds. To watch for signs of another downturn, monitor indicators like the yield curve, stock market trends, manufacturing jobs and the monthly house price index (HPI). Making smart investments can also help protect your portfolio during uncertain times.
Tips for Successful Investing
- A financial advisor can help you recession-proof your portfolio, while still growing your money. Finding a financial advisor doesn’t have to be hard. SmartAsset’s free tool matches you with vetted financial advisors who serve your area, and you can have a free introductory call with your advisor matches to decide which one you feel is right for you. If you’re ready to find an advisor who can help you achieve your financial goals, get started now.
- Your investing strategy should account for the possibility of a downturn, which is why your asset allocation should be more conservative as you approach retirement. By reducing your exposure to stocks, you can avoid the possibility of your retirement accounts taking a big haircut right as you need them. If you’re still in the market when a recession hits, consider these five things to invest in during a recession.
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