Much is said about “recession-proof” portfolios, but few investors left 2022 unscathed. Instead of being a rebound year, 2023 is expected to be another year of volatility and uncertainty. This means investors must look for creative ways to diversify their portfolios and build resilience in economic downturns. Private markets—such as venture capital, private equity, and private debt—may offer a compelling solution.

Historically, private markets outperform in recessions, but there’s more that investors can do to create a recession-resistant portfolio. Let’s explore a few strategies.

Thematic investments

Most sectors saw a dramatic fall in venture funding in the second half of 2022, but this wasn’t true for industries like ClimateTech. This sector saw a massive influx of capital and is expected to remain strong throughout the economic recession. This is due primarily to the fact that investments in ClimateTech can help protect against long-term economic damage from a hotter planet.

Further, the new US climate bill has made it much easier for ClimateTech startups to get off the ground. It provides a $370 billion funding package with incentives for solar and wind power and emerging technologies such as direct air capture and long-duration energy storage. Venture capitalists used to backing software companies now need to get up to speed on ClimateTech. 

Another sector that’s becoming indispensable to businesses is cyber security. The sector is proving recession-proof, with M&A and fundraising activity up 60 percent and 22 percent, respectively, in the first three quarters of 2022. Private equity actively backs vendors engaged in platform consolidation, driving sustained deal activity.

The cyber security sector is set to surpass pre-coronavirus levels regarding deal activity and value. In the future, enterprises must continue investing in cyber defenses regardless of the economic climate to protect against a sophisticated threat landscape.

Finally, pharma is well-positioned in a recession. Clinical trial technology, digital therapeutics, and retail pharma technologies pique investors’ interest.

For instance, CVS and Walgreens are investing heavily in technologies to create more efficient operations, including de-centralized clinical trial space. Payers such as Blue Shield of California are also using technology to improve the pharmacy value chain.

Hedge Funds and Private Credit

Hedge funds are another area that can provide tremendous value to investors during a recession. Hedge funds can outperform the market when it’s falling, as managers use a variety of strategies to generate returns in any market condition.

For instance, long-short strategies allow managers to take a bullish position on stocks they expect to rise in value while simultaneously taking a bearish position on stocks they believe will decline. This helps mitigate losses and can even generate profits in a falling market.

Another strategy gaining traction is private credit. This involves making private loans to firms that often can’t access bank loans, often at higher interest rates. Private debt tends to be less correlated to the stock market, which can help a portfolio remain resilient in a challenging market.

These are all relatively untethered from macroeconomic conditions and could potentially yield higher returns than traditional investments.

Ultimately, investors must diversify their portfolios to weather economic downturns. Private markets offer a variety of strategies to help investors achieve this goal.