Ways to Prepare for an Australian Share Market Crash
If the Australian share market, or S&P/ASX 200 (Index: ^AXJO)(ASX: XJO), crashes, you might wish you prepared for it better.
As your doctor will say prevention is the best cure for a market crash. Which, by the way, no-one can predict.
Here are three easy ways to prepare for a potential market crash…
1. Get rid of your expensive debts.
The worst thing you can be during a market crash is what we finance gurus call 'a forced seller'.
A forced seller is someone that has to sell their investments to pay bills or meet other living expenses like mortgage repayments and interest charges on credit cards (read: pieces of plastic that prey on vulnerable people).
So before you invest, the best thing you can do is pay off credit card debt. It's a guaranteed yearly return of whatever your yearly interest rate is (say 22%).
Margin loans fall into the same category. You don't need them — and they are dangerous.
2. Hold a cash buffer
Holding three to six months of living expenses in cash is probably enough, in my opinion. That's not science but a rule of thumb.
That will give you time to find a new job, sell some things you don't need or make arrangements to meet expenses when times get tough.
It will be your safety net.
It's not for holidays or a new car, but safe keeping. The rainy day fund.
3. Diversify.
'Don't put all your eggs in one basket'…blah, blah, blah.
I get it, it sounds boring. And it is.
But spreading your investments across asset classes (e.g. ASX shares, cash, property, bonds and international shares) is one of the few free lunches in investing.
Most people underestimate the benefit of being diversified. It is one of the primary reasons why rich people get richer and poor people stay poor.
I own a home and have an investment property.
That's terrible diversification.
I own Australian property and have ASX shares (mostly in banks).
That's nearly as bad.
I don't invest in shares or property, I just hold cash.
You're not doing it right. With cash earning just 2.5%, you are certainly not taking advantage of your ability to set yourself up for financial freedom.
Fun Fact: Just 8% of Aussies invest in international shares, according to the ASX.
Foolish Takeaway
The share market will crash. On average, it crashes every seven to 10 years. But that's not a hard and fast rule, it's simply what has happened in the past. The best way to prepare for the inevitable hard times is by making some sensible personal finance decisions now.
You will thank yourself for it later.
