It took a while for Western Hemisphere to realize that COVID-19 was more than just a China problem. All it took was Italy and South Korea to rattle the US and EU markets.
It was not at all reassuring seeing the market drop continuously for the fourth day in a row since Monday 24 Feb. And it continues to drop as I write this post.
As the market approaches correction territory (more than 10% drop), how should us as individual investors react?
Resist Selling Because You’ll Be Too Late
An article from the WSJ titled “The Pros Have to Sell Stocks Now. You Don’t” hinted that individual investors might be able to buy at a bargain in this situation. I will summarize the author’s point below.
Market crashes are caused by movements from the biggest investors – the professional investors. When they selloff a huge chunk of their positions, you can expect prices to drop.
After all, prices are determined by demand and supply and huge selloffs drives a strong downward pressure on prices. The converse is also true, huge buying drives prices up.
Whenever the professional investors make a move, because of their sheer volume and size, they will be the ones that influences the market trends. By the time we see the prices drop, it is already too late for us because the largest selloffs have already begun.
So, retail investors will be at the losing end of selling to escape the downtrend because we could only react after big boys had made their moves.
Instead, we as retail investors can affort to wait it out and let our portfolios take a beating temporarily until the market recovers. This gives us an advantage over professional investors – the flexibility to take temporary underperformance.
Professional investors cannot afford to let their portfolios drop because they need to meet certain performance targets or risk being fired. Hence they need to act quickly and protect against huge losses when market trends downwards.
Buying the Dip?
When prices are falling everywhere, there will be many opportunities to buy at a bargain.
Should we then buy more? After all Warren Buffet said “When it is raining gold, reach for a bucket, not a thimble”
While it would be a great opportunity, I think it is prudent not to bring out your biggest bucket out yet. The extent of the impact of COVID-19 is not fully grasped (see my earlier article). The market could go down further and enter into a bear market. Nobody knows.
The point is we should focus on the long term plan and not focus on buying the dip with the intention of reaping huge short term gains.
If buying the dip will risk affecting your long term plan should the market continue to tumble, then please refrain. Example of this is would be borrowing money or using leverage to capitalize on this opportunity.
But if you already set aside the money and have a long term plan to invest anyway, this presents an amazing opportunity to start investing as you can expect higher returns from lower prices.
And if the downward trending market seems too risky, you can dollar average invest instead of a lump sum investment. So if the prices continue to fall, your average cost will go down as well.
Another reason for buying the dip is for rebalancing your portfolio.
Or Flee To Safe Havens?
I had stressed the importance of diversifying your portfolio with uncorrelated asset classes. This benefit shows up more evidently when prices are falling.
Gold, US treasuries and USD rallied upwards while COVID-19 was wreaking havoc on stocks.
Gold in particular has been doing very well as people flock to it.
For the risk-adverse investors, adding allocations to gold or bonds help reduce the volatility in your portfolios. So do consider including those for diversification.
However, it will be too late if you want to buy gold or US bonds now. The professional investors who sold off first would have bought those much earlier.
Seek Shelter From The Stormy Market
Although it may sound drastic, avoiding market news during this time might be a good strategy.
For long term investors, market fluctuations are not unexpected and are factored in for their investment planning (see Monte Carlo simulation).
If you already have an investment goal and a plan to reach it, you should stick to it and focus on the long term.
Market news will just distract us, make us worry and tempt us to take action.
You might stand to gain if you managed to pull off taking the right actions during volatile markets in the short term. But if you did not manage to pull it off, it might risk or delay your long term financial goals. Don’t be greedy.
So close your ears, block off market news, focus on your plan and work hard towards it.
Times like this also serve as a reminder to cherish your health and spend more time with your love ones.
So maybe take advantage of mandated COVID-10 working from home situations to spend more time with your family.