A recession can send shock-waves through the economy, creating volatile conditions for investors.

Stock prices often decline, interest rates may fluctuate, and overall economic uncertainty can lead to knee-jerk reactions from the market.

However, managing investment risk during a recession is not about panicking or making hasty decisions. It's about staying informed, adjusting your strategy, and positioning your portfolio for resilience.

Reassess Your Portfolio Allocation

During a recession, market volatility can lead to sharp swings in asset prices. As such, it's essential to reassess your portfolio's asset allocation to ensure that it is aligned with your long-term goals and risk tolerance. Diversification remains one of the key strategies for reducing risk. When markets are unpredictable, a diversified portfolio can shield you from large losses.

A mix of stocks, bonds, real estate, and even cash equivalents can provide stability. More importantly, consider shifting your allocation toward defensive assets such as high-quality bonds or dividend-paying stocks that can provide steady income during periods of economic downturn.

Focus on High-Quality Assets

In times of economic uncertainty, focusing on high-quality assets can help mitigate risk. For example, investment-grade bonds, stable dividend-paying stocks, and companies with strong balance sheets and low debt are often better equipped to weather a recession.

Look for companies with consistent earnings growth, strong cash flow, and a competitive advantage in their industry. These companies are less likely to experience severe volatility during a downturn, and their financial stability can make them a safer investment.

Consider Defensive Stocks

Certain sectors are more resilient during a recession than others. These are known as defensive stocks—companies that provide essential goods and services that people need regardless of the economic climate. Examples include the healthcare, utilities, and consumer staples sectors. Companies in these sectors often experience steady demand even when the economy is contracting. People still need electricity, healthcare services, and everyday household products, which makes these companies relatively more stable than those in cyclical industries like travel, luxury goods, or real estate.

Investing in defensive stocks can provide a buffer against the market downturn and help you weather the storm. However, it's important to note that even defensive stocks can experience short-term declines, so maintaining a long-term perspective is crucial.

Embrace the Safety of Cash Reserves

While it might seem counterintuitive to hold cash during a recession, maintaining an adequate cash reserve can be an important strategy for risk management. Having cash on hand allows you to take advantage of buying opportunities when the market experiences sharp sell-offs. It also provides a safety net if you need liquidity in the short term.

Building up a cash position doesn't mean you need to keep your entire portfolio in cash. Rather, aim for a portion of your investments to be held in liquid, low-risk assets, such as money market funds or short-term treasury bills. These assets can offer stability while providing the flexibility to act quickly when opportunities arise.

Consider Hedging Your Investments

Hedging is a strategy used to protect against potential losses in a portfolio. During a recession, certain types of hedging instruments can be effective in mitigating risk. One common method is to use options, such as put options, which give you the right to sell a stock at a predetermined price. This can provide downside protection in case the market takes a sharp downturn.

Another option is to invest in commodities such as gold or precious metals. Gold, in particular, is often seen as a safe haven during economic uncertainty and inflationary periods. While it doesn't generate income like dividends or interest, it can serve as a store of value and preserve purchasing power during times of economic stress.

Ray Dalio, a prominent investor and founder of Bridgewater Associates, shared his view on gold's role in a balanced portfolio. He stated: "There's a saying that gold is the only asset that you can have that's not somebody else's liability. It's a prudent thing to have somewhere between 10 or 15% of your portfolio in gold."

Rebalance Regularly to Stay on Track

Rebalancing your portfolio is an essential practice to maintain the risk profile of your investments. During a recession, some of your assets may decline in value, causing your portfolio to become misaligned with your original allocation. Regularly rebalancing ensures that you maintain the appropriate level of risk and return based on your long-term financial goals.

Managing investment risk during a recession involves a combination of strategies aimed at reducing exposure to unnecessary risk while still positioning your portfolio for future growth. While it may be tempting to make drastic changes in response to short-term volatility, maintaining a long-term perspective is key.

With focusing on diversification, high-quality assets, defensive stocks, cash reserves, and hedging, you can protect your portfolio against the worst of the downturn while positioning yourself for a market recovery. With careful planning and a measured approach, you can navigate a recession with confidence, knowing that your investments are resilient enough to weather any storm.