Money Mistakes to Avoid During an Economic Downturn

If, like most humans, you're both curious and innovative, you may be tempted to "fix" the problem when there's an economic downturn and your finances are suffering. While you can take certain steps to improve the situation, some moves can make things worse. Whether the U.S. finds itself in a recession, a bear market, or simply fighting inflation, here are the actions you'll want to avoid.

Image source: Getty Images.

Where to invest $1,000 right now? Our analyst team just revealed what they believe are the 10 best stocks to buy right now. Continue »

1. Making rash investment decisions

While it's true that your portfolio sometimes needs rebalancing, it's rarely a good idea to pursue it without careful consideration. Economic downturns are part of the economic cycle; they come and go. If you initially invested with the intention of playing the long game, stick with the long game with the majority of your holdings.

Don't be in a hurry to change things up just for the sake of change. If you're feeling bold and have decided you'll capitalize on the downturn by taking risks you wouldn't normally take, take a deep breath. Speak with a financial advisor and study your options before making a final decision.

By the same token, a downturn in the market is not an indication that you want to scramble your investments. While the risks of staying the course may feel scary, history shows that those who stick around through the bad times are the ones who benefit most as the market improves.

2. Taking money from your retirement plan

Ask anyone who's ever taken money from their 401(k) or IRA during an economic downturn how they feel about that decision now. Chances are, they'll tell you to avoid it like the plague. It's natural to look at falling portfolio values and want to protect the funds you've worked so hard to build. However, doing so can cut your investment strategy off at the knees.

Here's why: When the market is depressed, asset values decline. That means you have to sell more assets to achieve the same amount of cash. In addition, selling your assets means you miss out on the market's recovery and future recovery potential.

In addition, depending on your age, you could find yourself paying high fees for withdrawing money from your account. That's money that could have appreciated through compounding, helping to build your wealth.

3. Making large purchases

If you need a refrigerator because yours is dead as a doorknob, there's not much you can do about it. However, if you've had your eye on a new (much cooler-looking) refrigerator because you don't like the look of your old one, an economic downturn is not the right time to make the purchase.

Unless you have a hearty emergency savings account to fall back on, you need to preserve as much cash as possible.

4. Counting on credit cards

With the average interest rate on credit cards hovering above 20%, they should only be used under two circumstances:

• When you can afford to pay them off in full each month before interest kicks in.
• When you're clearly in an emergency situation and have no other way to pay.

There's nothing inherently wrong with credit cards, especially if you use them, pay them off in full, and rack up reward points. The problem with using credit during an economic downturn is that you don't know how long it will be before the situation turns around. Adding one more monthly bill could push your budget to its limit.

5. Allowing hucksters to get in your ear

Whether someone is practically a stranger or your brother-in-law Dave, don't pay attention if they tell you they've got a "surefire" way for you to make money during a downturn. Hucksters come out of the woodwork when the economic waters are rough. If you're unemployed or underemployed, they'll sell you on a "great job opportunity." If your stocks are tanking like everyone else's, they'll have a stock pick that's "guaranteed to be a winner."

Stressful times not only bring out the hucksters, but can also cloud your judgment. After all, your instinct is to fix the problem. Be aware that some people will try to take advantage of that fact.

While economic downturns aren't fun for anyone, they do pass. The trick is to remain calm and clear-headed throughout.

The Motley Fool has a disclosure policy.