Laura Rowley Money & Happiness

Time to get defensive.

As we head into the new year, a volatile cocktail of economic factors is raising concerns about inflation and a possible recession. They include turmoil in the housing and stock markets, a tightening credit outlook, higher fuel and food prices, a weak dollar, declining consumer sentiment, and a gloomy retail outlook. Here are some strategies to help position your finances ahead of a downturn.

Secure Your Income

Recessions tend to wreak havoc on workers: Overtime dries up, commissions are smaller, bonuses are nonexistent, and job cuts are more frequent. In the first 10 months of this year, for example, the financial services industry announced more than 140,000 job cuts -- surpassing the previous record of nearly 117,000 job cuts set for all of 2001, according to Chicago outplacement firm Challenger, Gray & Christmas.

"We are going to be moving toward a much riskier job market for everyone, especially people at top of the food chain," says Paul Bernard, president of Paul Bernard & Associates, an executive coaching firm in New York. "People need to batten down the hatches, have their résumés ready, and be prepared for the worst."

Bernard advises clients to clearly understand their job expectations, and set priorities. "People need to be strategic and decide the three things to do that are most important," he says. "That's about as many things as you can do extremely well in your job. If you're being asked to do twelve things extremely well, this may not be a job at which you can be successful. Also, position yourself so you are connected to revenue-generating or cost-reduction areas. If it's hard for someone to quantify what they do, their job may be in jeopardy."

Align Your Values

In addition to exceeding expectations, "you have to manage your reputation by networking internally and externally," Bernard adds. He recommends volunteering for high-profile committees, special projects, or business groups that widen your network to other parts of the company and industry.

Moreover, when the going gets tough, the tough may discover it's time to get going -- especially when their principles don't mesh with their employer's. "As times get more difficult, we're going to find out a lot of organizations don't have strategies that make sense," says Bernard.

In a downturn, such companies tend to shoot the messenger bearing bad news, Bernard says, citing a client who was a high-level executive at Merrill Lynch, the investment bank whose chief executive officer, Stan O'Neal, stepped down last month. "Six to eight months ago, he told the CEO that the company was overleveraged," Bernard says. "Stan O'Neal paid him back by firing him. You have to assess whether you're in a culture where your values are aligned with the company's values."

Get Real About Real Estate

Renters looking to own a home may want to schedule some open-house visits for the spring. "If I'm buying, I want to be buying really soon here," says Michael Furois, president of The Planning Associates, a financial planner in Phoenix. "Interest rates are still low. We don't know where the bottom will be, but why wait until the last minute? If you're going to stay in the home for a while, whether you pay $200,000 or $211,000 over the next 30 years is not going to make much of a difference."

Homeowners, meanwhile, may want to postpone that two-story addition. As home prices continue to slide, so does the payback on extreme makeovers. In its 2007 cost-versus-value report, Remodeling magazine found that the biggest bang for the buck will come from minor jobs -- such as exterior siding and window replacements, or a kitchen facelift.

"Part of it is because these projects require a smaller outlay of cash -- $10,000 to $20,000," says Sal Alfano, Remodeling's editorial director. "The projects take a few days to a week or so, and the financing is generally provided by the contractors." Siding replacements and minor kitchen touch-ups returned 83 percent of their cost; window replacements, 79 percent. The worst investment? A home-office remodel, which returned only 57 percent of its cost.

Alfano says the trend is also because of changing product technology. "These projects involve low- or no-maintenance products, such as vinyl siding or windows," he notes. "There's also the energy-efficiency component; people have that on their minds, with rising fuel costs." This winter, heating oil prices are forecast to rise 26 percent and natural gas 11 percent, according to the winter fuels outlook from the U.S. Energy Information Administration.

Pay Down Debt and Build a Cash Cushion

Some 41 percent of households are living from paycheck to paycheck, according to a survey conducted earlier this year by CareerBuilder.com. If you're in this boat, minimize spending and focus on paying off revolving debt.

For every extra dollar you can save, put 75 cents toward debt reduction and 25 cents into your emergency fund. Aim to get at least three month's living expenses in a high-yield bank account; there are more than a dozen institutions currently offering APRs between 4 and 5 percent.

Track every penny you spend, whether you do so with a pencil and paper or financial software. Dr. Roy Baumeister, a social psychologist at Florida State University, has found that the inability to keep track of one's own behavior typically results in a failure of self-control. In addition, when you don't track and prioritize where you want to spend, conflicting goals and standards will undermine your self-control (i.e., you're stressed about layoffs at work so you splurge on dinners and drinks with office mates).

For instance, after a year of tracking my expenses on Mvelopes, an online budgeting system, I was surprised to discovered three areas of overspending: family vacations, clothing, and entertainment, in that order. These are common pitfalls, says Charles Farrell, a financial planner with Northstar Investment Advisors in Denver.

"Vacations and clothing are the biggest two," he says. "I ask people to recite their expenses, and they know what their house, utilities, car, and phone cost. But vacations are a black hole -- they may be spending $4,000 to $5,000 a year, and it's not budgeted for. It's also not normal for clients to have a clothing budget."

Stash Your Cash and Keep Buying

For investors who have portfolios to protect, the first stop is cash flow. "Make sure you have sufficient liquidity to weather the storm, so you don't have to sell a long-term portfolio at the worst possible time," says Gary Ambrose, director of Personal Capital Management, an NFP company, in New York. "I always get nervous when people look at their long-term portfolio and say, 'I can always sell that.'"

Stash cash in certificates of deposit, Ambrose suggests. "Even though they sound stodgy, CDs are a good thing," he says. "They outperform the other alternatives, like bonds, in the short term."

If you have a long time frame, continue dollar-cost-averaging into the market through your 401(k), or another investment vehicle. "The simple advice that nobody follows is to keep buying," says Ambrose. "Most people end up selling [in a downturn]; they try to time the market and they miss the upturn. If you're looking at a long-term strategy, it doesn't matter what's going on in two to five years. What's important is what's going to happen in ten to twenty years."

Go Big (or Wide)

Ambrose suggests moving into larger-capitalization, defensive U.S. stocks, such as consumer staples and healthcare, and considering opportunities in developed countries overseas.

"Larger caps will tend to outperform smaller caps because in any recession people get nervous about small caps," he says. "You can't go wrong with basics and vices -- people will always eat and drink and smoke. Thirdly, if you haven't diversified out of the country, now is as wonderful time to do so. You can buy an exchange traded fund or a good mutual fund that specializes in international investment."

Furois, on the other hand, suggests long-term investors stick to their guns. "You don't want a knee-jerk reaction that will affect your long-term gains based on activity going on today," he says. "I think regardless of any economic situation and circumstances, you have to be properly diversified. If you've made some money over the last couple of years and you're holding onto too much gold or energy, take your money, run, and then properly diversify your portfolio."