Now that the 2012 presidential election is in the record books, investors can start focusing on a much bigger issue - the fiscal cliff. The looming automatic spending cuts and tax increases could have a dramatic effect on the U.S. economy and could possibly push the nation back into recession. Overall, without action from Congress, 2013 and beyond could be quite a bumpy ride. For investors, it may make sense to prepare ones portfolio for any impending doom and gloom.

Applying The MACD Indicator With MetaTrader 4: How to use MetaTrader 4, a trading platform used for online trading in the forex, CFD and futures markets.

Big Time Spending Cuts
Back in 2011, The Budget Control Act was passed under a partisan stalemate, in which democrats and republicans could not agree on how to reduce the deficit. Under the agreement, a series of automatic spending cuts and tax increases were created in order to provide motivation, as well as create a line in the sand to bring the sides together to solve the deficit problem.

If Congress and President Obama don't act by January 1, then more than $600 billion in automatic spending cuts will hit the economy. Not to mention that there will be higher taxes starting in 2013. Economists agree that tax hikes and budget cuts will likely cause Americans to pull back on spending and significantly slow down the overall economy. The average household would have to pay an extra $3,400 in taxes next year as income rates rise 3 to 5%. According to nonpartisan think-tank, the Congressional Budget Office (CBO), the U.S. economy would contract by 0.5% in 2013, if the government fails to prevent going over the fiscal cliff. Currently, economists predict the U.S. will see far below the 2% GDP growth for the year.

The situation gets worse when it comes to unemployment. The CBO estimates that the U.S. unemployment rate will surge up to 9.1%, if a deal isn't reached. Unemployment currently stands at 7.9% and the jump would be the highest rate since July 1991.

Careful Portfolio Planning
Given the severity of the fiscal cliff, it's easy to understand why all three of the major stock market indexes have fallen about 5% since President Obama's reelection. The expiration of the Bush tax cuts for dividends, capital gains and carried interest are a prime concern for investors as well as any contraction in the already fragile economic recovery. However, blindly dumping dividend-focused funds like the iShares Dow Jones Select Dividend Index (ARCA:DVY) or other assets isn't necessarily the best way to play the cliff. Yet, there are some ways to prepare a portfolio just in case Congress decides to leap.

While U.S. debt loads are the heart of the fiscal cliff, treasury bonds remain a "safe-haven" for many investors in times of trouble. As investors have dumped stocks since the election, inflows into Treasury bond funds have grown. The $4.7 billion iShares Barclays 7-10 Year Treasury (ARCA:IEF) allows investors to bet on a basket of intermediate-term government bonds. The fund's 23 holdings provide a 1.59% yield for a rock bottom expense ratio of just 0.15%. Likewise, shorter-termed government bonds could be a good bet and the SPDR Barclays Capital 1-3 Month T-Bill (ARCA:BIL) is a good way to play those bonds.

If we do go over the cliff and the current tax rates expire at the end of the year, federal-tax-free municipal bonds will become more attractive as investors will be able to keep more income. The Market Vectors Intermediate Muni ETF (ARCA:ITM) can provide investors with a basket of tax-free muni bonds from across the nation. The ETF has an overall four-star rating from Morningstar (Nasdaq:MORN) and yields 2.4%. Similarly, the Van Eck-sponsored Market Vectors High-Yield Muni ETF (ARCA:HYD) could be used to get more "oomph," as it bets on the muni equivalent of junk bonds. HYD yields a tax-free 4.97%.

Finally, when it comes to safe-haven assets, precious metals like gold and silver remain a top draw for investors. No matter the outcome - deal or not - precious metals can serve as a buoy for portfolios in times of trouble. The obvious play in gold is the behemoth SPDR Gold Shares (ARCA:GLD) at nearly $73 billion in assets. Perhaps a better bet could be the ETFS Physical PM Basket Shares (ARCA:GLTR). The fund allows investors to own a basket of gold, silver, platinum and palladium stocks under one ticker.

The Bottom Line
Going over the pending fiscal cliff could be a scary proposition for American citizens and investors. The automatic spending cuts and tax increases could further damage America's already-fragile recovery. For investors, it's never too late or too early to prepare for the possibility. The previous picks, along with cash alternatives like the PIMCO Enhanced Short Maturity ETF (ARCA:MINT), make good choices.

At the time of writing, Aaron Levitt did not own any shares in any company mentioned in this article.

Related Articles
  1. Stock Analysis

    3 Resilient Oil Stocks for a Down Market

    Stuck on oil? Take a look at these six stocks—three that present risk vs. three that offer some resiliency.
  2. Economics

    Keep an Eye on These Emerging Economies

    Emerging markets have been hammered lately, but these three countries (and their large and young populations) are worth monitoring.
  3. Stock Analysis

    Is Pepsi (PEP) Still a Safe Bet?

    PepsiCo has long been known as one of the most resilient stocks throughout the broader market. Is this still the case today?
  4. Investing

    The ABCs of Bond ETF Distributions

    How do bond exchange traded fund (ETF) distributions work? It’s a question I get a lot. First, let’s explain what we mean by distributions.
  5. Investing Basics

    Top Tips for Diversifying with Exotic Currencies

    Is there an opportunity in exotic currencies right now, or are you safer sticking to the major ones?
  6. Mutual Funds & ETFs

    The 3 Biggest Mutual Fund Companies in the US

    Compare and contrast the rise of America's big three institutional asset managers: BlackRock Funds, The Vanguard Group and State Street Global Advisors.
  7. Stock Analysis

    3 Stocks that Are Top Bets for Retirement

    These three stocks are resilient, fundamentally sound and also pay generous dividends.
  8. Professionals

    5 Top-Rated Funds for Your Retirement Portfolio

    Mutual funds are a good choice for emotional investors. Here are five popular funds to consider.
  9. Investing News

    Are Stocks Cheap Now? Nope. And Here's Why

    Are stocks cheap right now? Be wary of those who are telling you what you want to hear. Here's why.
  10. Investing News

    4 Value Stocks Worth Your Immediate Attention

    Here are four stocks that offer good value and will likely outperform the majority of stocks throughout the broader market over the next several years.
  1. Can mutual funds invest in IPOs?

    Mutual funds can invest in initial public offerings (IPOS). However, most mutual funds have bylaws that prevent them from ... Read Full Answer >>
  2. How do dividends affect retained earnings?

    When a company issues a cash dividend to its shareholders, the retained earnings listed on the balance sheet are reduced ... Read Full Answer >>
  3. What is the difference between called-up share capital and paid-up share capital?

    The difference between called-up share capital and paid-up share capital is investors have already paid in full for paid-up ... Read Full Answer >>
  4. Why would a corporation issue convertible bonds?

    A convertible bond represents a hybrid security that has bond and equity features; this type of bond allows the conversion ... Read Full Answer >>
  5. Does index trading increase market vulnerability?

    The rise of index trading may increase the overall vulnerability of the stock market due to increased correlations between ... Read Full Answer >>
  6. What does a high turnover ratio signify for an investment fund?

    If an investment fund has a high turnover ratio, it indicates it replaces most or all of its holdings over a one-year period. ... Read Full Answer >>

You May Also Like

Trading Center
You are using adblocking software

Want access to all of Investopedia? Add us to your “whitelist”
so you'll never miss a feature!