The coronavirus pandemic and lockdown continue to have a growing impact on the economy with job losses and stock market swings. While some areas are starting to slowly reopen, many businesses are still closed as much of the nation remains on some sort of lockdown, and this has created a sort of financial storm for many who are affected.

Financial expert around the world have shared some tips to weather the financial storm, and some of these tips will be provided to you here.

What is a Financial Crisis or Storm?
How can you Weather a Financial Storm?
6 Steps to Weather a Possible Financial Storm in Retirement
How Can You Protect Your Company From the Next Financial Crisis?
What are the Types of Financial Crisis?
How often does a Financial Crisis Occur?

What is a Financial Crisis or Storm?

In a financial crisis, asset prices see a steep decline in value, businesses and consumers are unable to pay their debts, and financial institutions experience liquidity shortages.

A financial crisis is often associated with a panic or a bank run during which investors sell off assets or withdraw money from savings accounts because they fear that the value of those assets will drop if they remain in a financial institution.

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Other situations that may be labeled a financial crisis include the bursting of a speculative financial bubble, a stock market crash, a sovereign default, or a currency crisis. A financial crisis may be limited to banks or spread throughout a single economy, the economy of a region, or economies worldwide.

What Causes a Financial Crisis?

A financial crisis may have multiple causes. Generally, a crisis can occur if institutions or assets are overvalued, and can be exacerbated by irrational or herd-like investor behavior. For example, a rapid string of selloffs can result in lower asset prices, prompting individuals to dump assets or make huge savings withdrawals when a bank failure is rumored.

Contributing factors to a financial crisis include systemic failures, unanticipated or uncontrollable human behavior, incentives to take too much risk, regulatory absence or failures, or contagions that amount to a virus-like spread of problems from one institution or country to the next. If left unchecked, a crisis can cause an economy to go into a recession or depression. Even when measures are taken to avert a financial crisis, they can still happen, accelerate, or deepen.

Financial Crisis Examples

Financial crises are not uncommon; they have happened for as long as the world has had currency. Some well-known financial crises include:

Tulip Mania (1637). Though some historians argue that this mania did not have so much impact on the Dutch economy, and therefore shouldn’t be considered a financial crisis, it did coincide with an outbreak of bubonic plague which had a significant impact on the country. With this in mind, it is difficult to tell if the crisis was precipitated by over-speculation or by the pandemic.

Credit Crisis of 1772. After a period of rapidly expanding credit, this crisis started in March/April in London. Alexander Fordyce, a partner in a large bank, lost a huge sum shorting shares of the East India Company and fled to France to avoid repayment.

A panic led to a run on English banks that left more than 20 large banking houses either bankrupt or stopping payments to depositors and creditors. The crisis quickly spread to much of Europe. Historians draw a line from this crisis to the cause of the Boston Tea Party—unpopular tax legislation in the 13 colonies—and the resulting unrest that gave birth to the American Revolution.

Stock Crash of 1929. This crash, starting on Oct. 24, 1929, saw share prices collapse after a period of wild speculation and borrowing to buy shares. It led to the Great Depression, which was felt worldwide for over a dozen years.

Its social impact lasted far longer. One trigger of the crash was a drastic oversupply of commodity crops, which led to a steep decline in prices. A wide range of regulations and market-managing tools were introduced as a result of the crash.

1973 OPEC Oil Crisis. OPEC members started an oil embargo in October 1973 targeting countries that backed Israel in the Yom Kippur War. By the end of the embargo, a barrel of oil stood at $12, up from $3. Given that modern economies depend on oil, the higher prices and uncertainty led to the stock market crash of 1973–74, when a bear market persisted from January 1973 to December 1974 and the Dow Jones Industrial Average lost 45% of its value.

Asian Crisis of 1997–1998. This crisis started in July 1997 with the collapse of the Thai baht. Lacking foreign currency, the Thai government was forced to abandon its U.S. dollar peg and let the baht float. The result was huge devaluation that spread to much of East Asia, also hitting Japan, as well as a huge rise in debt-to-GDP ratios. In its wake, the crisis led to better financial regulation and supervision.

The 2007-2008 Global Financial Crisis. This financial crisis was the worst economic disaster since the Stock Market Crash of 1929. It started with a subprime mortgage lending crisis in 2007 and expanded into a global banking crisis with the failure of investment bank Lehman Brothers in September 2008. Huge bailouts and other measures meant to limit the spread of the damage failed and the global economy fell into recession.

The Global Financial Crisis

As the most recent and most damaging financial crisis event, the Global Financial Crisis, deserves special attention, as its causes, effects, response, and lessons are most applicable to the current financial system.

Loosened Lending Standards

The crisis was the result of a sequence of events, each with its own trigger and culminating in the near-collapse of the banking system. It has been argued that the seeds of the crisis were sown as far back as the 1970s with the Community Development Act, which required banks to loosen their credit requirements for lower-income consumers, creating a market for subprime mortgages.

The amount of subprime mortgage debt, which was guaranteed by Freddie Mac and Fannie Mae, continued to expand into the early 2000s when the Federal Reserve Board began to cut interest rates drastically to avoid a recession. The combination of loose credit requirements and cheap money spurred a housing boom, which drove speculation, pushing up housing prices and creating a real estate bubble.

Complex Financial Instruments

In the meantime, the investment banks, looking for easy profits in the wake of the dotcom bust and 2001 recession, created collateralized debt obligations (CDOs) from the mortgages purchased on the secondary market. Because subprime mortgages were bundled with prime mortgages, there was no way for investors to understand the risks associated with the product.

When the market for CDOs began to heat up, the housing bubble that had been building for several years had finally burst. As housing prices fell, subprime borrowers began to default on loans that were worth more than their homes, accelerating the decline in prices.

Failures Begin, Contagion Spreads

When investors realized the CDOs were worthless due to the toxic debt they represented, they attempted to unload the obligations. However, there was no market for the CDOs. The subsequent cascade of subprime lender failures created liquidity contagion that reached the upper tiers of the banking system.

Two major investment banks, Lehman Brothers and Bear Stearns, collapsed under the weight of their exposure to subprime debt, and more than 450 banks failed over the next five years. Several of the major banks were on the brink of failure and were rescued by a taxpayer-funded bailout.

Response

The U.S. Government responded to the Financial Crisis by lowering interest rates to nearly zero, buying back mortgage and government debt, and bailing out some struggling financial institutions. With rates so low, bond yields became far less attractive to investors when compared to stocks.

The government response ignited the stock market, which went on a 10-year bull run with the S&P 500 returning 250% over that time. The U.S. housing market recovered in most major cities, and the unemployment rate fell as businesses began to hire and make more investments.

New Regulations

One big upshot of the crisis was the adoption of the Dodd-Frank Wall Street Reform and Consumer Protection Act, a massive piece of financial reform legislation passed by the Obama administration in 2010. Dodd-Frank brought wholesale changes to every aspect of the U.S. financial regulatory environment, which touched every regulatory body and every financial service business. Notably, Dodd-Frank had the following effects:

• More comprehensive regulation of financial markets, including more oversight of derivatives, which were brought into exchanges.
• Regulatory agencies, which had been numerous and sometimes redundant, were consolidated.
• A new body, the Financial Stability Oversight Council, was devised to monitor systemic risk.
• Greater investor protections were introduced, including a new consumer protection agency (the Consumer Financial Protection Bureau) and standards for “plain-vanilla” products.
• The introduction of processes and tools (such as cash infusions) meant to help with the winding down of failed financial institutions.
• Measures meant to improve standards, accounting, and regulation of credit rating agencies.

How can you Weather a Financial Storm?

Life events happen to us all. They can be positive, like a pregnancy, promotion or relationship, or they might be devastating, like the end of a relationship, an illness, injury or even death. Preparation is the key to surviving these unavoidable life events financially intact.

Make Sure You Have a Will and Proper Insurance

Start by speaking to a lawyer or notary about creating a legal will. This document will ensure that your wishes are carried out and that your children and family are provided for.

It can also protect your loved ones from the stress of a family dispute over money or property. In addition, a lawyer can help you create a living will, which gives your family direction about how to handle your health care if you are incapable of making those decisions for yourself.

It is also important to speak to an insurance professional about the different types and amounts of insurance you may need, e.g. life, critical illness or disability. You may have some coverage through work or with your mortgage, so it’s important to review all policies annually, and especially if your circumstances change.

Create an Emergency Fund

One of the best strategies for weathering a financial storm is a personal emergency fund. Have money saved in a separate account to pay for at least 3 – 6 months of living costs. This may seem like a lofty goal, so start small and work towards it.

Pay yourself first to get it started, or jump-start your savings with any unexpected money you receive. If you create a budget so that you can set the money aside first, you won’t miss it and you won’t be tempted to spend it on something else.

Pay Down Your Debt

Along with starting an emergency savings account, commit to paying down your debt. If you rely on your line of credit in an emergency, you are at the mercy of your lender should something unexpected happen or you experience some financial problem.

If the economy changes, interest rates rise or your lender chooses not to extend further credit to you, without cash of your own, your ability to manage during a difficult time may be limited.

No one knows for certain what the future holds. When it rains, it sometimes pours. Carrying an umbrella will only keep you dry for so long. Work as a family and plan to weather the storm together.

6 Steps to Weather a Possible Financial Storm in Retirement

A recurring question over the years has been: “Do I have enough assets to retire or will I run out of money some day?”

That is a simple question, but one that is complicated by the unknown – will you retire in the beginning of a bull market or a bear market? At what point in the financial cycle will you be forced to start drawing on your portfolio?

The sequence of returns, as it is referred to, can produce starkly different answers to these questions.

The good news is there are strategies that can mitigate those detrimental consequences of retiring at the wrong time. Here are six ways to protect yourself and your portfolio:

Step 1: Realistic budget

The most important step is to know how much money you will need in retirement. We recommend that before retiring, take the time to determine a realistic budget, and do not underestimate your expenses.

These expenses should be broken down into recurring essential expenses (e.g., food, utilities, mortgage, property taxes, etc.) and discretionary expenses (vacations, dining out, gifts, etc.). If the market declines for a year or two, you can use a predetermined formula to adjust discretionary expenses based on a percentage withdrawal of the portfolio balances.

Step 2: Handling volatility

Knowing how much you should have in equity exposure is an important determination. There is no reason to have a higher percentage in the stock market than is needed for future growth to meet goals and objectives. If your retirement looks sound with an allocation of 50% in the stock market, then there is no reason to assume more risk,

The benefits of the potential gains will not affect your lifestyle, but the consequence of the potential losses could be devastating. These are critical calculations to review in retirement preparation.

Step 3: Hold asset classes that do not all correlate with one another

Design a portfolio that is exposed to various asset classes, different management styles, and different sectors. One should add investments that do not have a high degree of correlation with the stock market and alternative investments. This methodology can assist in reducing potential volatility while smoothing out future rates of return.

Step 4: Cash reserves

Always keep a cash reserve available that represents a minimum of six months of living expenses. These funds will be available for any unexpected expenses.

Step 5: Hedging techniques

Consider some of the hedging techniques that are available. You may be able to protect a portion of your equity portfolio from a certain percentage to the downside.

Sometimes, this means giving up a little on the upside, but preservation of principal is important in a declining market, while still giving you upside potential. Some of these strategies are available through annuities.

Over the years, the annuity market has received its share of bad press regarding high fees and lack of flexibility. Some new annuity products have improved over the years and they can provide a useful role in a portfolio.

Part of a defensive strategy can be matching a guaranteed income stream from an annuity contract to a certain percentage of essential recurring expenses. This income is reliable, even in a down market, and can be guaranteed for life.

A reduction in principal will not change this income and, even if the principal were to be depleted, the income will continue.

Step 6: Actual versus planned spending

Compare your actual spending to planned spending annually and make sure that you are not exceeding target withdrawals.

Forecasting the economic and financial climate when you retire is akin to a meteorologist forecasting the weather 2, 10, or 20 years into the future. It is little more than an outright guess.

By implementing the strategies above, however, you can be better prepared to successfully navigate any financial storm that may come your way in retirement.

How Can You Protect Your Company From the Next Financial Crisis?

how can entrepreneurs avoid being totally unprepared when the next financial crisis happens, and where are the current vulnerabilities in the market? Here are a few tips.

1. Increase your company’s awareness of how a financial crisis happens and how your company is exposed

While financial crises are on the one hand perfects storms — a confluence of bad policy, ineffective regulation and human behavior, all of the financial crises over the past 30 years follow the same pattern of events.

So even if the precise timing of when a crisis will “hit” is impossible to predict, we can understand where the economy is in the cycle of events that form crisis to prepare.

Every crisis follows the same path: the deregulation of a market leads to some type of widespread credit expansion, particularly to risky borrowers. Then, a trigger occurs; for instance, a market self-correcting (such the sudden drop in the U.S. housing market during the last crisis, or the sudden depreciation of the Thai Baht during the Asian financial crisis).

This leaves a large portion of a market unable to finance their debt, which creates a widespread default and a drop in general in the confidence of the health of the economy. A decline in lending follows, which then amplifies the crisis, as companies dependent on outside financing are unable to make payroll and invest.

Given that this is the general formula for the pattern of events that lead to crisis, it is important to understand which specific markets are currently vulnerable and the extent of your company’s exposure to this vulnerability in order to prepare for the future.

2. Slowly expand your corporate debt

Currently, the global corporate debt market is the market to watch in terms of future fragility. There has been both a widespread expansion and increased risk in corporate lending and bond issuance since the last crisis.

Furthermore, as a result of this market ballooning, a record amount of bonds will mature between 2018 and 2022. And with interest rates rising, this will not only create a harder environment for refinancing but could trigger a crash in the bond market as the price of bonds fall.

In this environment, companies where debt expands faster become increasingly risky in relation to those with the slowest debt expansions. So to prepare your company for the potential riskiness of growing debt, entrepreneurs should increase borrowing slowly, if taking on new debt at all is necessary.

3. Hedge exposure to China

Ballooning corporate debt is an even more concerning problem in China, as it is concentrated in even riskier companies. By some accounts, China’s share of the corporate bond at risk of default could soon rise to 43 percent.

Compounded with the recent geopolitical friction with China in terms of trade, entrepreneurs should be particularly careful in understanding their business’ exposure to China. Relying exclusively on China for key relationships could prove risky in the coming years.

In particular, if your customer base or supplier relationship relies on a healthy Chinese economy or open trade, this could severely impact future growth in an increasingly vulnerable Chinese economy.

To prepare for this, entrepreneurs should map out options to diversify their relationship to the Chinese economy. For instance, for those using Chinese suppliers only, sourcing options in other countries for manufacturing should be explored. 

4. Work through crisis scenario models

While it may seem alarmist, spending time to analyze the vulnerabilities of your business to the economic environment is an important step in protecting your company from future downturns. 

The business plan in its entirety should be dissected for crisis scenario vulnerabilities. This is best done with help from the outside, as entrepreneurs entrenched in their own company will have a hard time poking holes at their own exposure.

Difficult questions (need to be asked and answered, such as “if our target market no longer has money to spend on our product, what will we do and how long can we last?”, or “if our next line of credit Is no longer available, how will we fund purchase orders?”

While these questions and this exercise, in general, may seem apocalyptic in nature, this is close to what many entrepreneurs experienced in 2008. Without a plan for what would happen during a crisis, founders are steering the ship into potentially rough waters with no map.

While the economy currently is strong, another financial crisis will inevitably rear its ugly head. And the most proactive step an entrepreneur can take is to become aware and prepared, instead of burying their head in the sand about the fact that this will happen again.

What are the Types of Financial Crisis?

1. Banking crisis

When a bank suffers a sudden rush of withdrawals by depositors, this is called a bank run. Since banks lend out most of the cash they receive in deposits, it is difficult for them to quickly pay back all deposits if these are suddenly demanded, so a run may leave the bank in bankruptcy, causing many depositors to lose their savings unless they are covered by deposit insurance.

A situation in which bank runs are widespread is called a systemic banking crisis or just a banking panic. A situation without widespread bank runs, but in which banks are reluctant to lend, because they worry that they have insufficient funds available, is often called a credit crunch. In this way, the banks become an accelerator of a financial crisis.

Examples of bank runs include the run on the Bank of the United States in 1931 and the run on Northern Rock in 2007. The collapse of Bear Stearns in 2008 has also sometimes been called a bank run, even though Bear Stearns was an investment bank rather than a commercial bank. The U.S. savings and loan crisis of the 1980s led to a credit crunch which is seen as a major factor in the U.S. recession of 1990-91.

2. Speculative bubbles and crashes

A financial asset like stock shows a bubble when its price exceeds the present value of the future income (such as interest or dividends) that would be received by owning it to maturity. If most market participants buy the asset primarily in hopes of selling it later at a higher price, instead of buying it for the income it will generate, this could be evidence that a bubble is present.

If there is a bubble, there is also a risk of a crash in asset prices: market participants will go on buying only as long as they expect others to buy, and when many decide to sell the price will fall. However, it is difficult to tell in practice whether an asset’s price actually equals its fundamental value, so it is hard to detect bubbles reliably.

Well-known examples of bubbles and crashes in stock prices and other asset prices include the Dutch tulip mania, the Wall Street Crash of 1929, the Japanese property bubble of the 1980s, the crash of the dot-com bubble in 2000-2001, and the now-deflating United States housing bubble, known as sub- prime crisis.

3. International financial crises

When a country maintains a fixed exchange rate and is suddenly forced to devalue its currency because of a speculative attack, this is called a currency crisis or balance of payments crisis. When a country fails to pay back its sovereign debt, this is called a sovereign default.

While devaluation and default could both be voluntary decisions of the government, they are often perceived to be the involuntary results of a change in investor sentiment that leads to a sudden stop in capital inflows or a sudden increase in capital flight.

Several currencies, part of the European Exchange Rate Mechanism suffered crises in 1992-93 and were forced to devalue or withdraw from the mechanism. Another round of currency crises took place in Asian Crisis during 1997-98. Many Latin American countries defaulted on their debt in the early 1980s. The 1998 Russian financial crisis resulted in a devaluation of the ruble and default on Russian government bonds.

4. Wider economic crises

Negative GDP growth lasting two or more quarters is called a recession. An especially prolonged recession may be called a depression, while a long period of slow but not necessarily negative growth is sometimes called economic stagnation.

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Since these phenomena affect much more than the financial system, they are not usually considered financial crises per se. But some economists have argued that many recessions have been caused in large part by financial crises.

One important example is the Great Depression, which was preceded in many countries by bank runs and stock market crashes. The subprime mortgage crisis and the bursting of other real estate bubbles around the world have led to recession in the U.S. and a number of other countries in late 2008 and 2009.

How often does a Financial Crisis Occur?

A financial crisis is a cleanup of excesses. The most important ones are usually forgotten because, they are a starting point of bigger political crisis.

They usually happen when a get rich quick opportunity emerge. Too much resources are directed toward the new opportunity and when it ends, most of those efforts are wasted. It is not only money, a person that spent his limited time to learn a new skill can become unqualified in a couple of weeks.

Financial crises are not new. In America, there have been a number of financial crises (no two of which are identical but most if not all of which share many common features) over the past two centuries. The Economist magazine lists 13 major world financial crises, beginning with the south Sea Bubble in 1720 and ending with the financial crisis that began in the United States a decade or so ago.

Finally

With the present economic situation in the world caused by the Coronavirus pandemic, the tips above can help you weather the financial and equally prepare for the next one.