At the time of writing (August 2018), the stock market is doing pretty well. In fact, the S&P 500, which is the benchmark stock index in the USA, just closed at a new all-time high, marking almost nine and a half years of gains and the longest period without a drop of more than 20% in history, breaking the previous record set back in the 1990s.
So why the gloomy headline?
Well, at a time when it appears that the market rally will never stop and without wanting to rain on the parade, I just want to remind everyone that the market will crash sooner or later.
It’s inevitable. So it doesn’t really matter when this post was written and when you are reading it.
But the fact that it is inevitable doesn’t mean you need to worry too much, especially if you are investing for the long term.
Let me explain . . .
They say that they definition of insanity is repeating the same thing over and over and expecting different results.
By that reckoning, most investors are insane, because we see the same buy-high-and-sell-low behaviour happen decade after decade. It’s not like people don’t know the mantra “buy low sell high”, but there seems to be something that prevents the majority of investors doing that in reality.
It’s all to do with emotions and people find it very difficult to detach their emotions firm their money.
The media makes it worse.
As soon as the markets slip a couple of percent, they are all over it in their usual sensationalist way:
Doom and gloom!
This is the end . . .
And everybody comes out with their predictions, talking about corrections, bear markets and crashes.
It’s usually the same guys that have predicted 20 out of the last 2 stock market crashes.
These commentaries from the so-called experts can get (retail) investors spooked and convince you into taking the very action that will end up losing you money.
See, you need to understand that the reports written by the media on the markets probably actually compound movement in both directions – they’re great at getting behind a bull market and when we see a bit of a sell-off, they’re equally as efficient at proclaiming an impending crash.
And it’s then a competition to see who can create the most sensational headline, because that’s what sells. The media is in the business of selling news – they don’t know the markets, even if they sound like they do.
But remember: economies go through cycles and stock markets go up and down.
It cannot always be a one-way street, although that’s super easy to forget while everyone’s giddy with stock market euphoria.
Whether we see a drop in the markets next week, next month or next year, the reality is that we will see a correction and a crash at some point in the future.
It’s really not a question of ‘if’ but a question of ‘when’.
How to prepare yourself for market dips
I thought I’d share a few thoughts and tips on how to participate in the stock markets, but to still prepare for the inevitable.
What qualifies me to comment?
Well, it’s just my opinion.”And I would probably answer that question with another question:
“What qualifies anyone to throw their opinions out there when it comes to stock market predictions?”
They are just opinions and if you look back at opinions given a year ago, you’ll see that at least half of them were wrong.
It doesn’t matter if the opinion came from a bank, a commentator, an analyst, a trader, a financial adviser, a fund manager, a YouTube pundit or your grandmother – people get short-term stock predictions wrong.
Like, ALL THE TIME kind of wrong!
Analysts are great at analysing things that have already happened, but as you will read at the bottom of any prospectus or fund factsheet: past performance is not a guarantee of future results.
Because nobody has a crystal ball.
Anyway, back to it. Here are some useful technical terms that you may hear during a market downturn.
- A pullback is a decline of 5-10%.
- A correction is defined as a decline in the stock market of greater than 10%.
- A bear market is a drop of 20% from its previous high.
- A crash is the sudden, dramatic decline across a significant section of the stock market.
All of these movements are normal!
I repeat: pullbacks, corrections, bear markets and crashes are a normal part of the stock market movement.
Pullbacks of 5-10% may typically happen 3-4 times per year and corrections are not infrequent either. They are part of the natural order of the stock market and if you are a long-term investor, you’re going to see quite a few of them, so buckle up and don’t freak out.
The important thing to remember and the area where most people fail is to not let emotions rule your actions.
Keep calm. Be patient. Fight your instincts. Stay diversified.
The markets don’t go down forever and eventually they go back up. At least, that is what we have seen historically and we’ve only got that to go on.
Barring black swan events and/or the complete collapse of the financial system, the chances of the markets going back up are in your favour.
You cannot time the markets
Nobody can time the markets.
Or let me rephrase that: nobody can do it with consistent success. Sometimes people get it right, but as mentioned earlier, these are usually the people who call a crash or correction every other month.
As they say, even a broken clock is right twice a day.
Try spending time in the market, rather than trying to time the market. If you have a nicely balanced portfolio that mainly follows the global market indices, you’re probably going to do ok by sitting tight.
When quality stocks fall in price, view it as a great opportunity to buy up some more at a bargain price.
It’s sale time, ladies and gentlemen!
Keep your eyes on the prize
An alternative title for this post should have been: “How To Stay Focused On The Long-Term Plan.”
If you are a long-term investor, you don’t need to get spooked by short-term drops in the markets. These are only really an issue for short-term traders.
Ask yourself the question: “Have the fundamental reasons why I picked this stock or fund in the first place changed?”
If the answer is a “No”, then it’s a case of crack on – as you were.
You can also look at a drop in the markets as an opportunity to review your holdings as a whole and make sure that the balance is in line with your overall risk profile and objectives.
Remember though, whichever strategy you choose to follow, you’ll need to factor in an approach that makes the assumption that there will be a drop in the markets at some point in time.
So, at a time when the stock market is still on an upward trajectory, that’s my take on stock market declines.
What are your thoughts on this?