In the previous article about making money during a recession, we learned about some good assets to hold in a bearish market.  

 

But guess what?

 

There are more assets you can benefit from during difficult times! 

 

These investments can give you some financial security when everything is looking dire.

 

Let’s see what these assets are!

 

1. Real Estate

 

In a recession, the prime rate rises, so more people rent instead of buying. Leasing is a great way to make passive income.

 

Benchmark rates rise with inflation and the Consumer Price Index (CPI). House prices also go up during inflation, and property owners will want to take advantage of the price hikes. 

 

The best time to sell the property is when inflation has occurred, but the prime rate has not gone up yet. (Inflation does not immediately increase the prime rate.)

 

Even if you do not sell the property, the monthly rent will provide consistent cash flow during a recession. If anything, you can raise the rent during inflation.

 

Also, if you live on the property you held for at least 2 years, you will not have to pay taxes on the capital gains. However, you must have that property as your primary residence, not as an investment property. 

 

In hard times, renting a property can generate income. More people will rent as rates rise, making it harder to sell a home. This lets you lease the space and get paid.

 

2. Gold

 

Gold prices usually climb during recessions.

 

This commodity has outperformed other asset classes in some of the worst economic times, producing double- to triple-digit returns.

 

Inflation increases gold’s value, but deflation lowers it.

 

Basically, gold becomes expensive when everything else does. 

 

You must consider that gold’s prices may plummet when the stock market becomes bullish. 

 

It is best to sell your gold when the economy speeds up. 

 

 

3. Mutual Funds

 

If you wish to invest less money but gain access to recession-proof asset types, mutual funds are a great option.

 

Mutual funds offer instant diversification of assets without the hassle of choosing stocks, bonds, etc.

 

In this case, you’re paying and trusting another person to pick the winning assets for you.

 

There are various types of funds you can put your money in.

 

For instance, stock funds only invest in stocks, bond funds focus exclusively on bonds, Real Estate Investment Trusts (REITs) concentrate on real estate, and so on.

 

Because mutual funds typically hold hundreds of different stocks, bonds, and other securities from many industries, you should own shares of one of these funds. 

 

If you were to own individual stocks and/or bonds in your portfolio, a good rule of thumb is to own 50 to even 100 different securities in all sectors to be well-diversified.

 

Stock and Bond Funds are great choices to achieve this diversification without spending a lot of money.

 

During an economic downturn, the best stock funds to look into are the utilities funds, natural resources funds, and healthcare funds. 

 

For bond funds, I would look for the ones that invest in the corporate bonds of reputable companies and the municipal bonds of the bigger cities. Remember, muni bond funds pay federally tax-exempt and potentially state tax-free interest income.

 

If you want to take on less risk, you can invest in money market funds, which are highly liquid funds whose prices rarely change. Its Net Asset Value (NAV) is generally set at $1 per share, and you collect monthly dividend income. These funds invest in short-term securities such Treasury Bills, Commercial Paper, CDs, Banker’s Acceptances (BAs), etc.

 

On the condition that you want tax-free monthly income, I suggest investing in municipal money market funds. You do not pay federal taxes on the dividends and can even be exempt from state and local taxes. 

 

If you rather go for real estate, apartment-focused REITs are the best ones to choose during the recession. Many people prefer to rent rather than to buy to avoid paying high mortgage interest when the market rate is high. So, it will be less costly to rent a place for the time being.

 

There are also precious metal funds. Yes, even gold funds exist! Small gold investors should consider these funds. You are still getting access to gold, but indirectly since you’re actually not holding these coins yourself.

 

You do have to trust the portfolio manager’s selection of investments in accordance with your financial goals.

 

You also must worry about the fees each fund imposes because these costs can eat away at your returns.

 

Some mutual funds offer Dividend Reinvestment Plans (DRIPs) to help boost your returns and offset the costs. Also, there are mutual funds that pay capital gains distributions in addition to dividend income and profits made from redeeming the shares.

 

4. Apply dollar cost averaging

 

As with any stock, defensive stocks are more valuable when held long-term (5 years or more).

 

With brokers offering the option to buy fractional shares of a stock, you can use dollar cost averaging, in which you set a small amount of money aside to invest in these stocks periodically, whether it’s weekly or monthly. 

 

You can also implement this strategy when investing in mutual funds. The shareholder also has the option to choose the Dividend Reinvestment Plan (DRIP). This plan allows the shareholder to reinvest any earned dividends back into stocks and mutual funds if he or she wants more shares instead of quarterly cash income. 

 

Dollar cost averaging is a useful strategy, especially during these difficult economic times, because you avoid buying the shares at the worst possible time. 

 

In a downturn, you can expect stock prices to fall steadily. However, by investing money little by little at different times, you might buy when prices drop. 

 

You will also be buying at better times during price appreciation.

 

By doing this, you avoid putting all of your eggs in one basket at the worst possible time.

 

For example, if you invest $1,000 in McDonald’s stock at $100 per share, you would acquire 10 shares. But if the stock fell to $80 in a couple of months, you would be losing $200. 

 

An investor may get a different result if he or she purchases shares periodically.

 

For instance, you spent $10 in January when the stock sold for $100, then you invested another $10 in February when it was selling for $90, then another $10 in March when the shares were on sale for $95, and so on. You invested a small amount of money at different times so you could avoid spending all of your nest egg at the worst time.

 

Do not forget about DRIPs, where you can turn your dividend income into shares. This is a very effective tactic because the shares have a variable amount in contrast to cash dividends, which have a fixed dollar amount.

 

Instead of receiving $3 in cash dividends this period, you may earn 0.03 fractional shares of McDonald’s stock at $100 per share. (The 0.03 comes from $3 divided by $100.) Then those shares appreciate to $200 in several months, and you sell them at that time! That 0.03 fractional shares would be worth $6 at that time if you chose DRIPs.

Also with DRIPs, you get more and more shares throughout the year. Imagine how much more money you can gain because you reinvested all of your dividends into more shares!

If you chose the cash dividend option, you would have just collected $3. 

You see the difference between choosing DRIPS over cash dividends?

 

That is what makes the difference between dollar cost averaging and investing your nest egg all in one basket.

 

It is also better to employ dollar cost averaging on defensive stocks which tend to outperform other equity types during market corrections or a Bear Market.

 

5. Collect Qualified Dividends

 

When you invest in stocks or mutual funds, I would buy them at a certain time. Why is that?

 

You must purchase the shares within a specific holding period to collect qualified dividends. 

 

Qualified dividends are dividends classified as long-term capital gains. 

 

With qualified dividends, you are receiving tax-advantaged income. You will pay less taxes than you would on ordinary dividends. 

 

If you are in the 10% to 12% tax bracket, you will not pay taxes on them. That is better than paying 10% or 12% taxes on this income.

 

If you are in the 37% tax bracket, you pay 20% tax on qualified dividends. If the dividends were ordinary, you would have paid 37% instead. You saved yourself from paying 17% more on taxes if you bought the shares at a certain time.

 

That is a big deal when you take into account the after-tax return, which includes the inflation rate. 

 

For high earners, you may pay an additional 3.8% tax on any dividends if your Modified Adjusted Gross Income (MAGI) is $200,000 ($125,000 or more if you file Married Filing Separately on your tax return). 

 

In that case, your 20% tax becomes 23.8% on qualified dividends. It would have been 40.8% on ordinary dividends (37% tax plus 3.8% additional tax).

 

So, what is the holding period, and how does it determine the type of dividend?

 

First, you need to determine if you hold common or preferred shares.

 

Common shareholders are allowed to vote for the company’s board of directors but do not get priority for dividend payments.

 

Preferred shareholders are usually not allowed to vote but get priority over common shareholders in receiving dividends. They are more likely to receive any full dividend amounts owed to them than the common shareholders.

 

You must acquire the common shares of the stock or fund in a 121-day holding period, 60 days before the ex-dividend date for common stock. You must hold the shares for 61 days or more.

 

For preferred shares, you have to buy the shares 90 days before the ex-dividend date during the 181-day holding period. You will have to hold the shares for 91 days or more.

 

The ex-dividend date is the date the period’s dividend payments are recorded. You must buy the shares at least a day before the ex-dividend date to be entitled to this period’s dividend payments. 

 

If you buy on the ex-dividend date, you will not receive the dividend payment this period. Instead, you will receive dividends for the period after.

 

The ex-dividend date is often set a month before the dividend payment date.

 

Keep in mind that the period of time you buy the shares determines if you will receive ordinary or qualified dividends.

 

So, you buy Company E’s stock, and you see that its shares are common.

 

The ex-dividend date is March 7, and the dividend payment date is April 7.

 

You purchased Company E’s stock on February 29, which is 8 days before March 7. You are entitled to April 7’s dividends, but they are ordinary dividends because you did not buy the shares 60 days before the ex-dividend date. Therefore, you will pay regular income tax on these dividends.

 

If you had bought the shares on January 3, you would have acquired them more than 60 days before March 7. So, you will be receiving qualified dividends on April 7, and you can enjoy the tax advantages that come with them.

 

Generally, big brand companies pay common dividends.

 

It is also important to know that you will not receive qualified dividends if you acquire the shares from an exercised options contract or from an employer’s stock option plan. 

 

We must always discover ways to financially adjust to the unpredictable economic future. 

 

Even when the economy is bad, you can still keep your money safe and earn more. Knowing that you can benefit from the downturn makes it less stressful to worry about the economy. 

 

We focused more on investment instruments that are likely to perform well during and after a recession. 

 

I recommend reading this post if you want to know how to protect and make money during inflation or hyperinflation if there are no positive signs of a bull market.