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3 ways I’m recession proofing my stock portfolio for a potential market crash

We had plenty of financial market uncertainty last year. Think of the US-China trade tensions, Brexit stalemate, and inverted yield curves, to name but a few. Yet at the end of 2019, the FTSE 100 along with stock markets around the world finished up when looking at a year-on-year basis.

For 2020, it seems like time may be running out for the market to continue shrugging off major events. A meaningful correction (or dare I say it, an outright crash) may be due. We have already seen the wobble only a few weeks ago, when the FTSE 100 lost over 300 points in a week due to valid concerns about the impact of the coronavirus.

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Here in the UK, some analysts are forecasting a recession either this year or next, due to the impact of Brexit. If we did see this, alongside some catalysts like the ones mentioned above, then the FTSE 100 index could be in trouble. Thus I think it wise to take steps now for my existing stock holdings.

Trim profits

For any investor who has held a diversified FTSE 100 portfolio over the past few years, you will have a strong likelihood of sitting in profit. In my opinion, now is a good time to trim some of that profit and reduce your exposure to the market in general. Now I am not saying to sell out of everything – far from it. But as you have likely registered gains, protect some of that by selling maybe 10%-20% and have those funds back in your cash account.

Buy defensive 

Either from your cash realised from profits via trimming your positions from my first point, or by selling some other stocks, I wold suggest buying into some defensive stocks. These are firms with relatively inelastic demand from consumers, such as companies in the consumer staples sector. 

For example, supermarkets such as Sainsbury’s and Tesco could be good buys. Even if we do see a recession here in the UK, will people like you and me stop getting our pint of milk and loaf of bread? Very unlikely. Therefore the profits and share price performance of these firms will likely be sheltered from a broader market drop.

No correlation

One of the biggest mistakes I see from investors is that they buy stocks that are heavily positively correlated with each other. If we saw a market crash, and if one firm falls, then the others would follow suit. This is typical if you buy within one sector, such as banking. During the 2008 financial crisis we saw all the banks suffer.

To help prevent this, look to buy stocks that are not correlated to each other, or even have some negative correlation. That way, if one does fall, the others could actually perform better and help to offset losses. I would suggest to do this by investing across different sectors, but also look to different sized firms, mixing blue chips with some smaller AIM-listed firms.

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Jonathan Smith has no position in any firms mentioned. The Motley Fool UK has recommended Tesco. Views expressed on the companies mentioned in this article are those of the writer and therefore may differ from the official recommendations we make in our subscription services such as Share Advisor, Hidden Winners and Pro. Here at The Motley Fool we believe that considering a diverse range of insights makes us better investors.