Lessons From the Recession

This was a pipe dream. As the recession made painfully clear, you can't count on your home to be worth more than you paid for it when you're ready to sell.

"Even if their house sale does provide them with excess funds," says Elissa Buie, a Vienna, Va., financial planner, "they should not plan on those funds being enough to cover their living expenses, as there is no way to know that will happen." Besides, everyone needs somewhere to live, and most Americans don't downsize in retirement.

"The vast majority of people stay in their homes until their 80s," says Stuart Ritter, a certified financial planner at T. Rowe Price: "Your house is a place to live and a lifestyle choice. It's not an investment asset."

Wall Street firms and banks earned huge fees selling subprime loans.

Christopher Anderson/Magnum Photos

3. Stock prices can keep falling a very long time

This painful fact of life is all too easily forgotten. In a bull market, the smart investor's mantra is "buy on the dips" — that is, buy when prices fall because they won't stay down long. In bear markets, they do.

Between October 2007 and March 2009, stocks plunged 57 percent, down a seemingly bottomless hole. Twelve years of gains disappeared in 17 months.

The big challenge in such a market is resisting the overwhelming impulse to join the stampede for the exit. History has repeatedly shown that sitting tight is the key to successful stock market investing. If you sell, as many people did in 2008, you lock in your losses. That's a disaster — and the older you are, the less time you have to rebuild your savings.

A bear market is easier to endure if you know how much pain you're likely to face. As a rule of thumb, assume that your stocks and stock funds can drop 50 percent overnight and stay down for a very long time, advises Larry Elkin, a Scarsdale, N.Y., financial planner. (The average bear market since 1900 has lasted about 14 months, with an average decline of 31.5 percent.) If you can't stand to see your total savings fall by more than 25 percent, Elkin says, you should invest no more than 50 percent of your portfolio in stocks.

If you sell in a bear market, you'll lock in your losses.

Marcus Bleasdale/VII

4. You can't avoid risk by avoiding stock market

Like everything else in life, investing involves trade-offs. With stocks, you lose money when the market falls. But thinking only about that risk is like looking only one way when you cross the street.

Look the other way and you'll see that with bonds, you risk losing purchasing power to inflation. (In case you've forgotten, in January 2003 a dozen eggs cost $1.17, a pound of ground chuck cost $2.13 and gasoline cost $1.55 a gallon. This January, the eggs cost $1.93, the meat cost $3.40 a pound and gasoline sold for $3.41 a gallon.)

The best solution: Divide your money between stock and bond investments. You need stocks because they can grow your money enough to keep pace with the cost of living. A healthy 65-year-old man today can expect to live into his 80s, and a healthy 65-year-old woman into her 90s.

"Many 65-year-olds should keep at least 50 percent of their portfolios in stocks," says Harold Evensky, a Coral Gables, Fla., financial planner. You need bonds because they can put a floor under your stock market losses, says Christine Benz, Morningstar's director of personal finance. If you invest in both, you'll still lose money in a market meltdown — but you won't lose as much, and you'll recover faster.

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An example: If you invested $10,000 in the Vanguard S&P 500 Index Fund at the 2007 market peak, at the market bottom your account was worth $4,474. If you invested half your money in the Vanguard Total Bond Index Fund, at the end of the bear market your $10,000 was $7,600. By the end of February 2013, the 50-50 investment was worth $12,253; the 100 percent stock investment was worth $10,858.

Today, the safest bonds — short-term bonds with high credit quality — pay almost nothing. Many investors are abandoning them in favor of riskier high-yielding bonds. That's a mistake, says Benz. "Lower-quality bonds and emerging market bonds pay more, but they won't insulate you from stock market shocks." Think of short-term bonds' low returns as the price you're paying for insurance.

Next page: You aren't necessarily done with your kids after college. »

The Great Recession wiped out more than 8 million jobs.

Ed Kashi/VII

5. Your job is your greatest asset

It's much harder to survive a major downturn without a paycheck. Even a part-time job at minimum wage can be a lifesaver if it helps you cover your basic living expenses without having to withdraw from a shrinking nest egg in a bear market.

Don't retire until you're confident you could pay your essential expenses for at least two years without having to tap your stock investments, says Steve Vernon, research scholar at the Stanford Center on Longevity. The surest way to achieve that goal is to boost your Social Security benefit by delaying your application.

Social Security is guaranteed monthly income that doesn't fall when stocks do — and it lasts for your lifetime and your spouse's lifetime. Other sources of income that can help you survive a bear market without a paycheck include money market funds, certificates of deposit, short-term high-quality bonds and fixed-income annuities.

Graduates faced the worst job market in decades.

Joachim Ladefoged/VII

6. You aren't necessarily done with your kids after college

Many of us already knew that, of course — but the Great Recession really drove it home. Faced with the worst job market in decades, more than one-third of recent college graduates decided to return to school; and almost one-quarter of them took an unpaid job or moved back home with their parents.

We're hardwired to help our children. But it's vital to figure out how much financial help you can give without compromising your own security — and to communicate that reality to your kids, says financial planner Blayney. "Remember, they have plenty of human capital and time on their side, and you have to take care of yourself."

If your kids' college years still loom on your horizon, create a college budget that doesn't increase your debt or eat into your retirement savings. (One option: two years at a community college, then transfer.) If your college graduate is a boomerang baby, expect him or her to contribute to your household expenses. You won't be alone: Of those ages 25 to 34 who live with their parents or moved back home in bad times, 48 percent say they've paid rent.

Lynn Brenner is a Newsday personal finance columnist and a Reuters contributor.

The Great Recession touched a lot of people across the country. Did you feel the effects? Do you know someone who was hit particularly hard? Share your stories in our Credit, Loans and Debt Message Board.