Market downturns are an unfortunate certainty in the life of any investor. For those of you lucky enough never to have experienced the feeling of glancing at your portfolio only to be greeted by a sea of red, your time will inevitably come. How you react to this is often what separates the successful investors from the rest.
With the markets currently undergoing extreme volatility, it's easy to become fearful. With that in mind, here's some advice on how to handle a severe downturn and come out the other side healthy.
The first, and most important piece of advice, is not to panic. As evidenced by the numerous previous stock market crashes, the market will eventually recover. If you panic and begin selling off you could rob yourself of potential long-term gains.
It's very easy to get caught up in the daily news mill, where the sky is falling and no businesses will ever recover. Remind yourself of the history of the stock market. Between 1854 and 2018 there were 33 recorded major recessions in the United States. Every single one of them saw the market bounce back past previous highs.
By exiting your positions you're locking in a loss, despite it being statistically likely that the market will recover. The hardest thing to do in times of unrest is nothing, but by honing this temperament you can put yourself in the best possible position to eventually outperform the market
Once you've avoided the inevitable feelings of panic associated with a spiraling portfolio, it's time to collect your thoughts. Specifically, consider your investing timeline and reevaluate your current positions.
Short-term thinking can be extremely dangerous to any portfolio. By reminding yourself of your own timeline you can regain some clarity. A 20-year outlook makes each earnings report only representative of 1.25% of the time you plan on owning a stock for. Large companies won't fall apart over one bad earnings report, so remember to zoom out and think long-term.
Remind yourself of the reasons you already hold the stocks in your portfolio. If the underlying facts from these companies haven't changed, neither should your convictions. Companies will always rise and fall in the short term, the successful investors will hold on through this turmoil and come out the other end still holding a successful company.
With panic avoided and your thoughts focused, you can now look to take action. First, assess your portfolio for diversity. You should look to diversify in multiple ways if possible: geographically, stylistically, and through different industries. Doing this will protect your portfolio by ensuring you aren't overly affected by any one issue.
Next, consider rotating into some defensive stocks. Certain industries tend to do well in an economic downturn, such as utilities or healthcare. Owning strong-performing stocks in these industries could help mitigate any wider market issues.
Finally, consider anchoring your portfolio with large-cap, market-leading stocks that will more than likely be easily able to ride out any periods of economic strife. Apple (NASDAQ: AAPL) and Berkshire Hathaway (NYSE: BRK.B) are two that instantly come to mind.
Once your portfolio is adequately secured against a further downturn, you can consider making some purchases if the situation allows you to. By making calculated moves you could secure valuable stocks at a discount. Many investors rotate away from high-growth stocks in a downturn out of fear. If the underlying properties of these companies are still strong, you could potentially invest while they are undervalued.
Be careful to only buy what you can afford. Utilizing a strategy such as dollar-cost averaging could be of particular use here in order to remove some of the emotion from your purchases. As the 'Oracle of Omaha,' Warren Buffett, once said:
"Be fearful when others are greedy, and greedy when others are fearful."
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