How to Prepare for a Recession: 7 Smart Tips

The first step in preparing for a recession is to shore up your cash reserves. Otherwise, you may be forced to sell stocks during a market decline, locking in losses and undercutting your portfolio's capacity to recover.

Aim to have three to six months' worth of living expenses in a relatively safe, liquid account—such as a high-yield savings account, interest-bearing checking account, money market savings account, or a short-term investment like a money market fund or short-term CD—plus enough cash to cover any upcoming sizable expenses, like tuition.

For retirees, cash reserves ideally should be larger. Retirees often benefit from holding a portion of their portfolio in relatively stable, liquid investments to help cover near-term spending needs during market downturns. This approach may help reduce the need to sell stocks or other more volatile investments when markets are under pressure.

When market volatility increases, it's natural to feel anxious—but selling during an economic downturn can do more harm than good. Investing is a marathon, not a sprint, and staying invested can be one of the most effective ways to keep your long-term financial plan on track.

Trying to time the market usually backfires. That's because not only do you need to time when you sell, you will need to time when you buy back into the market as well, and missing just a few of the top-performing days can dramatically lower your return. For example, the annualized total return¹ of the S&P 500 Index from 2006 to 2025 was 11.0%, but if you moved your portfolio into cash after a market drop and missed the top 10 days during that same period, the annualized total return dropped to 6.6%. Keep in mind that past performance is no guarantee of future results.

As long as you have sufficient time and liquidity—whether from wages, retirement income, or cash reserves—it's important to stay the course so you can benefit from any eventual recovery.

Instead of pulling out of the market, focus on maintaining your strategy. That means reviewing your portfolio and adjusting as needed—such as trimming investments that have become overweight and reinvesting in areas that are underweight. These refinements can help you stick to your target allocation and take advantage of the lower prices a down market often provides, without abandoning your long-term plan.

When the market is falling, it's natural to want to wait until it recovers to put more money in, but you should really be doing the opposite if you can afford it. As famed investor Warren Buffett once put it: "Bad news is an investor's best friend. It lets you buy a slice of America's future at a marked-down price."

Still, there are a couple of caveats:

• Don't use your emergency savings for new investments. You might be tempted to dip into that pool for especially tempting opportunities, but they're called emergency funds for a reason.
• Don't hoard cash hoping to land a bargain. The sooner your money is in the market, the sooner it can benefit from the effects of compounding, whereas we know that trying to pinpoint the perfect time to get in is notoriously difficult.
• Don't use funds that you need soon. A steep downturn in the market, and potentially your diversified portfolio, can last for several years. Make sure you have the time horizon to weather any losses or hold your cash in an interest-bearing savings or checking account, or stable assets like money market funds or CDs—especially if you're expecting a large expense or purchase in the short term.

Building additional income streams can help you avoid tapping your investments at the worst possible time and keep your financial plan on track. You might:

• Review your budget. Identify nonessential spending and redirect those funds toward savings or debt repayment.
• Start a side hustle. If possible, consider ways to supplement your primary income, such as freelancing, consulting, or monetizing a skill.
• Sell unused items or assets. A quick declutter can bring in cash, and even potentially reduce expenses such as storage fees, insurance, and/or maintenance costs.

Diversifying your income during a recession can make your finances more recession-proof and help you stay invested for long-term growth.

Lenders often tighten credit standards during recessions. That means your credit score—and how you manage debt—becomes even more important. Here's what to do:

• Pay down high-interest debt first, especially credit card debt. Credit card balances and personal loans can quickly become a burden if your income drops or rates rise. Reducing these balances lowers your monthly obligations and frees up cash flow.
• Stay current on student loans and other essential expenses. Missing payments can damage your credit score and make future borrowing harder. If you're struggling, explore options like income-driven repayment plans or deferment.
• Avoid taking on new debt unless necessary. Preserving flexibility is key when uncertainty looms. If you must borrow, compare rates and terms carefully.
• Check your credit score and credit report regularly. A strong credit score can help you qualify for credit if you need it later. Review your report for errors and improve your score by paying bills on time and keeping credit utilization low.
• Don't close old accounts unnecessarily. Keeping older accounts open can help maintain your credit history and utilization ratio.
• Create a plan for your financial situation. If you're carrying significant credit card debt or worried about job security, consider building a budget that prioritizes essentials and debt repayment. This can help you stay afloat if income drops.

A downturn offers the opportunity to fine-tune your investment strategy—not overhaul it. Tactical tweaks should be refinement rather than wholesale changes. One good rule of thumb is never deviate from your target asset allocation by more than five percentage points.

Consider these adjustments to help your portfolio weather a downturn:

• Know your time horizon. Your investment time horizon can help guide how much short-term volatility you're able to tolerate. If your goals are long-term (such as retirement), short-term market swings may matter less than staying aligned with your overall strategy.
• High-quality stocks: Companies with low debt, positive earnings, strong cash flow, and low volatility tend to outperform when recessions hit and investors turn to businesses with ample financial cushions.
• Lower-volatility sectors: Defensive sectors—including consumer staples, health care, and utilities—have historically been less volatile than the broader market and therefore have greater potential to outperform when returns go negative.
• Fundamentals-focused index funds: These index funds weight holdings by fundamentals such as adjusted revenue, dividend yields, and earnings, favoring value over market-cap. Before considering any fund, consult a fund's prospectus to better understand its objectives, risks, charges, and expenses.

While there's a lot you can do on your own to prepare for a recession or a downturn, you may not have the time or expertise to manage every detail—or you may simply want a second opinion. Working with a financial advisor can help you create a comprehensive financial plan that aligns your investments with your spending needs, debt management, and long-term goals.

A strong financial plan goes beyond your portfolio. It considers your entire personal finance picture—cash flow, credit health, insurance, and retirement accounts—so you’re prepared for both downturns and future economic growth. A skilled planner or advisor can also help you refine your investment strategies for uncertain times, ensuring your asset allocation and risk level match your goals.