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What to Do When the Stock Market Crashes? Thumbnail

What to Do When the Stock Market Crashes?

Every few years, but not on a particular schedule, we experience gut-wrenching corrections in stock prices.  Sometimes these are based on factual evidence, usually a decline in corporate earnings caused by an economic slowdown or outright economic recession.  Examples of this are the Financial Crisis of 2008 – 2009 and the recession caused in 2020 by the COVID-19 outbreak.  Other times investor fears of what “might“ happen cause them to panic and sell their stocks.  Examples of these are things like the decision of the United Kingdom to separate from the Eurozone economic block back in 2016.  While that separation is still on-going as of 2020, the impact did not cause a global economic slowdown, but stock prices were temporarily very volatile.

We have three learning objectives for this post:

  1. To have an understanding of stock market corrections and how long they can last

  2. To identify how your investment portfolio may be impacted by drops in stock prices and how to minimize the impact

  3. Develop a game-plan for how you will react to inevitable price corrections

In the last few decades, we have observed a trend toward longer “Bull” markets, where prices rise for many years without experiencing a significant drop.  But, when the drops have come they have been attention-getting!  Examples were the almost 10-year bull market in the 1990s which was followed by a 50% decline for the S&P 500 from 2000 – 2002.  It took about four years for prices to reach a new high in 2007, but then the market promptly dropped 50% again in the 2008 – 2009 Financial Crisis and another four years was needed to get back to the same level as back in 2000.  In other words, someone who bought and held a diversified portfolio of stocks earned only dividends for about 13 years!  

We now know the period of 2009 to 2020 as the longest-ever bull market.  This rise was finally derailed by the COVID -19 virus and 34% decline occurred in the space of around 5 weeks.  Amazingly, in the middle of a recession, the market recovered all of its losses and moved to new highs over the next 8 – 9 months, the fastest recovery ever.

A trend toward quicker recoveries from stock market corrections has emerged in the last several years.  While we can’t be sure, we believe this is due to the ultra-low interest rate environment of this period where dividend yields on stocks have been higher than the yields on government bonds, which makes investors more willing to take the additional risk in equities after a correction has taken place.

The extent to which a stock market correction will impact your portfolio depends on the proportion of your money that is invested in stocks.  A portfolio of 50% stocks and 50% high quality bonds will almost always decline a lot less than a portfolio of 80% - 100% stocks.   If you are sensitive to price corrections and perhaps prone to react in the middle or at the end of one of these events by “selling low”, I would suggest working with your advisor to determine an appropriate investment allocation for your personal risk tolerance. 

While it’s especially difficult if you’re close to, or in, retirement; experienced long-term investors know it’s important to stay calm during market corrections. Market volatility has increased in recent years and the media can often make it seem like another market crash is imminent. In reality, volatility does not hurt investors, but selling when the market is down locks in their losses.  The effects of a large or sustained correction are magnified in retirement when you are drawing income from your investment accounts.

Successful investing is more like a marathon than a sprint, and it’s important to have a long-term game plan to stay on track. The biggest mistakes usually occur when deviating from a disciplined approach to managing your portfolio.  Having great communication with your advisor and a plan in advance for how to protect yourself from emotional decision-making is a great way to stay calm and not overreact.  You may still feel the emotional tugs of wanting to react, but history has shown those emotional decisions to generally be a mistake in hindsight.

At Integra Capital Advisors we favor an approach for those sensitive to market volatility known as “time segmentation”.  This concept calculates the portion of your portfolio to be placed in short-term, medium-term and long-term investments to make sure that your income is not impacted by a temporary drop in stock prices.  This approach has created confidence for the clients for which we have performed this type of planning.  To find out more about time segmentation call us today at (941) 778-1900 or Click Here to schedule an appointment.