Right before the pandemic began in 2020, the question I posed for all of you was: If the economy tanked, would you be ready? How about if World War III broke out?
I asked this question before 2019 was an extraordinary year for returns. Something bad was bound to happen, and it did!
Let’s do a post-mortem and review of this post.
If The Economy Tanked, Will You Be OK?
The U.S. is in the midst of its longest economic expansion in history.
But when the Federal Reserve cuts interest rates, that’s usually a sign that the economy is slowing down — or worse. After raising rates nine times from 2015-18, this year the Fed has reversed course, cutting the short-term federal funds rate three times.
Boom Bust Cycles
Another worrisome trend: New York Fed data shows the unemployment rate for recent college graduates (red line) has been inching upwards this year, suggesting employers are skittish about growth.
Booms and busts of the business cycle are pretty much accepted as a necessary tradeoff of our free-market, capitalist system — which has weathered seven recessions since the 1970s. At the very least, it is clear that growth is slowing in both developed markets and emerging markets around the world.
Most Felt A Recession Was Coming
In a recent CNBC/SurveyMonkey poll, nearly two-thirds of Americans said they think it’s likely we’re headed for a recession next year. Close to half of those who see storm clouds on the horizon are preparing for it by cutting back on household spending and paying down debt.
“This refreshing prudence on the part of the U.S. households is, of course, exactly opposite of what macroeconomists at the Fed — as well as incumbent politicians who view lower rates as enhancing their re-election prospects — want to happen,” says former FDIC Chairwoman Sheila Bair.
Rate cuts are designed to encourage people to borrow and spend. But this time, Bair says, “it looks like American households have learned their lesson, even if Washington has not.”
The downturn has obviously arrived in 2020 thanks to the coronavirus pandemic. It unfortunately came sooner than most of us had all expected. As a result, this post is more important than ever.
It’s always a good idea to constantly be managing any outstanding debt you’re carrying, whether its credit card balances, student loans, or a mortgage.
If the economy tanked, make sure
- You’re not paying a higher interest rate than you can qualify for
- Most of your monthly payment is going toward paying down principal, rather than interest charges
- You’re prioritizing your loans with the highest interest rates
- You have a good cash balance equal to at least six months of living expenses
Let’s look at some techniques you can use to whip your credit card, student loan, and mortgage debt into shape and get better prepared for the next recession. If the economy tanks, you want to be prepared.
Here’s how to make lots of money in the next economic downturn. Economic downturns occur every 5-10 years.
Refinancing Student Loans
According to the Federal Reserve, in 2019 the average college debt among student loan borrowers in America is $32,731. This is an increase of approximately 20% from 2015-2016.
Most borrowers have outstanding student loan debt of between $25,000 and $50,000. But more than 600,000 borrowers in the country have over $200,000 in student debt, and that number may increase.
Student loans are good candidates for refinancing in a falling interest rate environment, or at any time your creditworthiness has improved.
Rates on federal student loans are fixed once you take them out. But at the start of each academic year, rates for new borrowers are adjusted to take into account the government’s cost of borrowing.
Not only that, but grad students and parents pay higher rates. So it’s not unusual for many borrowers to be paying 6%, 7% or 8% interest on federal student loans.
In a falling interest rate environment, many graduates who have put together a history of earnings and credit can qualify for better rates from private lenders like SoFi, Citizens Bank, College Ave, and PenFed. Rates on student loan refinancing have also been falling.
But check rates with multiple lenders, and keep in mind you’ll lose access to federal programs like income-driven repayment if you refinance government student loans with a private lender.
If you’re refinancing a mortgage, fees can cut into the savings you can achieve by refinancing. But there are no prepayment penalties on student loans, and none of Credible’s partner lenders charge origination fees for refinancing them.
To refinance your student loans, click here to get real student loan rates from multiple private lenders.
There’s been a rush to refinance mortgages in 2019 thanks to a dip in long-term rates. But keep in mind that the Federal Reserve played a role in keeping mortgage rates down after the 2008 financial crisis.
Now the Fed wants to back out of its role in funding mortgages, so mortgage rates could head up if private investors don’t pick up the slack.
When refinancing a mortgage, you’ll have to measure the savings you can achieve if you’re able to get a lower interest rate against fees charged by the lender. You can use a “break-even” calculator to see how long it will take for your savings to cancel out any fees.
Financial Samurai recommends refinancing if you can break-even within 24 months or less and own the house for five years or more. Alternatively, look into a “no-cost refinance” where all the fees are baked into the refinance.
When shopping for mortgage refinancing, Credible provides actual rates and transparency into fees, without sharing your information with lenders. Credible has streamlined and digitized much of the mortgage application process, using smart logic that removes duplicative questions from the process and automatically gathering many of the required documents.
To refinance your mortgage, click here to get real mortgage rates from multiple private lenders. Mortgage rates have drastically declined since 2018.
Consolidating Credit Card Debt
The good news about credit card debt is your interest rate is typically indexed to the prime rate, and the prime rate follows the Fed’s short-term interest rate adjustments closely. So when the Fed is in the mood to cut rates, your credit card rates will often come down, too.
But a funny thing happened when the Fed was raising short-term rates from 2015 through 2018. Long-term rates — on government bonds, mortgages, and even personal loans — failed to keep pace. For a while, we had an inverted yield curve, when long-term rates defied logic, and were lower than short-term rates.
An inverted yield curve can be a warning signal that a recession is looming. But freakishly low long-term rates also create an opportunity to consolidate credit card debt.
At the end of the third quarter of 2020, the “spread” between interest rates on credit cards and personal loans hit an all-time high. People carrying a balance on a credit card were being charged 16.97% interest, on average. But the average rate on personal loans was only 10.07%
Take Advantage Of Lower Personal Loan Rates
This huge spread has borrowers scrambling to refinance credit card debt by taking out personal loans at lower interest rates, potentially saving thousands of dollars.
As Financial Samurai has written, paying the average credit card interest rate will likely keep your poor forever. With the spread between the average credit card interest rate and the personal loan rate so large, it behooves those with credit card debt to consolidate their loans.
If you’re interested in pursuing this strategy, it’s important to get actual rates from multiple lenders. Competition for borrowers is fierce, so shopping for the best rate can pay off.
To refinance your higher credit card debt, click here to get some real personal loan quotes from multiple private lenders. Take advantage of the biggest spread in a long time.
Always Be Prepared If The Economy Tanked
By taking advantage of lower rates and prudently paying down debt, you will be in much better shape if the economy goes into a recession. Surviving a recession is all about having enough cash flow to make it until the inevitable recovery.
If the economy continues to roar higher, you’ll also feel great knowing that you’ve optimized your debt while concurrently making greater returns and optimizing your earnings power.
At the end of the day, you always want to create a heads you win, tails you also win scenario, no matter the economic environment.
Update Dec 1, 2020: It is crazy that the economy tanked hard. Harder than anybody could have ever imagined due to the coronavirus pandemic. However, here we are with stocks and real estate prices higher than ever before. As the economy tanked, wee took advantage of lower interest rates and refinanced our debt. We also ended up buying a lot more assets with cheap money.
Update 2H2022: The economy is slowing down again. Investment opportunities are emerging.
Invest In Real Estate More Strategically
Real estate is my favorite way to achieving financial freedom because it is a tangible asset that is less volatile, provides utility, and generates income. Stocks are fine, but stock yields are low and stocks are much more volatile.
The combination of rising rents and rising real estate prices builds tremendous wealth over the long term. Meanwhile, there are more ways to invest in areas of the country where valuations are lower and net rental yields are higher thanks to crowdfunding.
Take a look at my two favorite real estate crowdfunding platforms. Both are free to sign up and explore.
Fundrise: A way for accredited and non-accredited investors to diversify into real estate through private eFunds. Fundrise has been around since 2012 and has consistently generated steady returns, no matter what the stock market is doing. The real estate platform has over 300,000 investors and manages over $3 billion.
CrowdStreet: A way for accredited investors to invest in individual real estate opportunities mostly in 18-hour cities. 18-hour cities are secondary cities with lower valuations, higher rental yields, and potentially higher growth due to job growth and demographic trends.
I’ve personally invested $810,000 in real estate crowdfunding across 18 projects to take advantage of lower valuations in the heartland of America. My real estate investments account for roughly 50% of my current passive income of ~$300,000.
Even if the economy tanked, real estate will continue to pay steadily as it is a sticky and defensive asset. The key is building more cash flow.