Tips for Weathering a Recession

N E W  Y O R K, Sept. 5, 2001 -- It might not officially be a recession, but so far this year, a million Americans have lost their jobs, and the economy grew by a skimpy 1 percent last quarter.

Analysts are predicting corporate profits will drop more than 8 percent — $30 billion — for the year. And a new ABCNEWS/Washington Post poll found that 52 percent of Americans think the economy is heading into a recession — 7 percent more than thought so in April.

Good Morning America contributor Mellody Hobson, president of Ariel Capital Management in Chicago, explained how to recession-proof yourself, and even take advantage of the economic downturn.

Is it a Pseudo-Recession?

First off, Hobson calls this a "pseudo-recession," because by government standards we aren't in a recession at all. A recession is two consecutive quarters of decline in gross domestic product (GDP), the total value of goods and services that a nation produces.

The U.S. Commerce Department reports that the nation's GDP grew in the second quarter at its weakest rate in eight years. But as long as the economy shows positive growth, no matter how small, the economy is not in a recession.

"But with job cuts at 1 million and the S&P 500 down, it feels like one," Hobson said. Even President Bush is out and about, trying to boost the spirits of American workers.

Despite the fact that the Fed has cut interest rates seven times since January, the latest crop of economic statistics looks bleak. U.S. households owe 97 percent of their disposable income, the greatest percentage of debt in post-war U.S. history.

"Literally the consumer has been holding up the economy with their credit-card spending," Hobson said. Consumer spending has held strong, housing prices have held up, and government spending has been brisk. But all three are showing signs of weakening.

Go Bargain Shopping for Stocks

Going bargain-shopping for stocks is one smart move you can make in this pseudo-recession. It's a stock-picker's market, Hobson says.

Undervalued Stock: Hobson suggests finding undervalued companies of high-quality products and buying their stock while they are down: it is poised for a strong comeback.

Currently, according to the Russell 1000 Growth Index of the 1,000 largest-selling stocks, "growth" stocks like General Electric and Microsoft are down 45.32 percent. But there is only a 1.12 percent decrease in their "value stocks", such as Phillip Morris, Ford Motor and AT&T, all cheaper stocks that have struggled recently. In a bad economy, these "value" stocks have less far to fall and are better investments, Hobson said.

Small Company Stock: Hobson also advises investing in small company stocks. They are fast-growing stocks that have already suffered through their own bear market, so they are cheap right now.

Recession-Resistant Company Stock: Buy recession-resistant companies with stable growth prospects, Hobson said. Think about the essentials that people need, regardless of the economy: pharmaceuticals and food stocks. For example, pharmaceutical company Merck had a 22.6 percent return in the last 10 years, so if you had invested $1,000 in it at the end of 1991, when we were in a real recession, you would have made $6,258 by the end of December 2000, when the market began to drop again.

The Coca-Cola Co. saw a 20.2 percent return in the same 10 years. If you invested $1,000 in Coke on Dec. 31, 1991, you'd have made $5,238 by Dec. 31, 2000.

Both returns are greater than the return for the S&P 500 over the same nine-year period, which was 16.1 percent, or $3,833.

Refinance Your Mortgage

It is a good time to refinance your mortgage, because a recession's lower rates can make a big difference in your monthly payments. It could also be an ideal time to go house-hunting. If the country does go into a recession, interest rates will fall, and if you have a stable job and can find a bargain, it's a good time to buy a house.

In non-recession times, a 30-year, $150,000 mortgage would carry an interest rate of 8.5 percent, and a monthly payment of $1,153.37. Over 30 years, the homeowner would shell out $265,213.57 in interest.

But the current fed rate is 6.875 percent, a "recession-rate" house could be purchased for substantially less. The monthly payment would be $985.39, with total interest paid over 30 years totaling $204,744.23. The difference would be $167.98 a month, or $60,469.34 over 30 years.

Foolish Moves to Avoid

There are some bad moves to make in a recession, Hobson said. Here is her list of don'ts.

Don't borrow to finance your lifestyle or to buy stocks. Buying on margin is always risky, and margin debt is high now.

Don't make large buys such as a new car, a boat or an expensive vacation.

Don't buy cyclical stocks in industries that get hit by recession, such as the automotive industry.

Don't be too optimistic or pessimistic. Remember that every stock is not going to rebound, but don't be too fearful and move all your money into cash either.