Warren Buffett once said of recessions, “It’s only when the tide goes out that you learn who’s been swimming naked.” It’s easy to make money in boom times, but during recessions and periods of high inflation, we can see who the truly smart investors are. Just what do these smart investors do? 

Remain Invested

One of the biggest myths about recessions and inflationary periods is that it’s time to “cash out.” That is the wrong strategy. Asset markets are like banks. We keep money in banks because it’s safe and convenient. We rely upon the network of confidence and government insurer deposit built to ensure that the banking system never collapses. Similarly, we invest in assets to lay claim on the future streams of cash flows they assure us, trusting in the network of confidence that has been built up to ensure that you will always have access to your funds, which is to say, you will always be able to find a ready buyer. Assets are essential for building wealth, and when there’s inflation, a particular type of asset is rising in value, and rather than cashing out, you want more of that type of asset. 

Just as governments have ensured that depositors will always get their funds back in the event of a collapse, governments have essentially told us that they would never tolerate a market collapse. Stocks of an individual company may collapse; for instance, Beyond Meat is down over 40% year-to-date, and at one point, was down as much as 80% for the year. The government won’t intervene there. It may intervene to bail out a systemically important company, but generally, individual stocks are free to rise and fall. But when it comes to the whole market, governments worldwide have shown they will always support the market. That gives investors some of the certainties of banking and encourages them to remain invested. 

Invest in the Right Asset Classes

Just because there’s a recession or high inflation doesn’t mean that every industry in the country is doing poorly. Every period in the business cycle has its winners and losers. Inflation implies a period when the price of tangible assets, particularly commodities, rises. 

Farmers and farmland owners are enjoying a boom, despite surging fertilizer costs. Although commodity prices have softened, commodities remain at elevated prices. The Farmers National Council has said that farmland prices are “up, up, up”.

According to the TSA, travel is close to pre-pandemic levels. Restaurants and hotels are growing despite massive staffing challenges, and the same inflation and supply chain challenges the rest of the economy faces. Automakers such as Ford are doing well. Retail sales in June were higher than expected. 

So what you want to do is to look at those sectors that are most likely to do well. Indeed, they should be showing signs of doing well during the current period. According to Portfolio Einstein, the best performing asset classes of 2022 are energy stocks, commodities, the precious metals sector, gold, and Canadian stocks. Energy stocks are up 39% for the year, commodities 25.41%, the precious metals sector 7.41%, gold 5.8%, and Canadian stocks 3.95%. 

Be Greedy When Others Are Fearful

Even within traditionally underperforming sectors in periods of recession and high inflation, it is possible to find stock market winners. Some of the most successful businesses in corporate history were started or launched during a recession, such as, General Electric, IBM, Google, and Facebook. 

Investors who bet on those companies looked past the recession and outward to the future. They understood that they were investing in a business that would do well in the future, so they ignored whatever was going on with the market. They took a long-term view of the business. 

When the pandemic started, markets became very antsy before collapsing. However, investors who bought at the bottom of the market made a killing, especially those who invested in out-of-favor stocks such as those of airlines. Those investors understood that after the pandemic was over, people would fly again. And once the market understood that, the share prices recovered. 

Right now, large-cap growth stocks have delivered -10.28% in returns. Small-cap growth is down 9.71%. Among that wreckage, some businesses have very good long-term prospects and are trading at attractive valuations. 

Conclusion

Although recessions and inflationary conditions are very difficult periods for investors, this does not mean that investors cannot profit. The important thing for investors is to pursue two kinds of opportunities: invest in businesses in sectors that typically thrive in such conditions and go bargain hunting for quality businesses that have fallen out of favor. This allows for protection today and success tomorrow.