5 Things You Can Do To Prepare For The Next Market Crash or Correction
2020 has been a crazy ride for investors.
Back in the first quarter of 2020, the Singapore stock market benchmark Straits Times Index (STI) fell 784.04 points or 25.1% from 26 Feb 2020 to 23 Mar 2020.
Similarly, the U.S. stock market benchmark S&P 500 index fell 28.2% during the same time period.
However, this bear market (stock market falls 20% or more from its most recent high) for the S&P 500 lasted only 23 trading days.
Subsequently, the S&P 500 index went into bull market territory (widely viewed as a 20% rise in a market over time from its bottom) and started hitting all-time highs in 2021.
So here’s the million-dollar question. Can this bull market last or should we as investors expect another bear market or market correction (stock index fall more than 10%)? The past would suggest that the latter is nearly inevitable.
In fact, according to data published by Yardeni Research, we have seen about 38 distinct stock market corrections in the benchmark S&P 500 index of at least 10% since the year 1950.
On average, this means that this level of market correction happens once every 1.84 years. Smaller market declines of 5% to 9.9% happen even more frequently.
Fun fact, a drop of more than 30% to the index like what we saw in March happens on average, once every decade.
As such, the next market crash isn’t a matter of IF… it’s a matter of WHEN.
Don’t get caught by surprise – learn how to prepare yourself to survive and thrive during a market crash!
Disclaimer: The information provided by Seedly serves as an educational piece and does not constitute an offer or solicitation to buy or sell any investment product(s). It does not take into account the specific investment objectives, financial situation or particular needs of any person. Readers should always do their own due diligence and consider their financial goals before investing in any investment product(s).
Tl;DR: How to Prepare For a Stock Market Crash
No one can accurately predict stock market crashes or corrections. But you can still prepare for this almost inevitable occurrence by:
- Preparing an Emergency Fund
- Staying the course
- Investing without emotion (Dollar Cost Average)
- Setting aside a war chest (and buy the dip)
- Diversify your income sources
No One Can Accurately Predict Stock Market Corrections
Unless you are a time traveller or can predict the future.
It is next to impossible to accurately predict stock market crashes or corrections.
In other words, we cannot know exactly:
- When a stock market crash or correction will happen.
- The extent of the correction.
- The duration of the correction.
- What will cause the correction.
Thus, this is a longer way to say that trying to predict stock market movements in the short term cannot be done reliably or accurately in the long run.
So what you can you do as an investor?
Here are five things you can do to prepare.
1. Prepare an Emergency Fund
When it comes to investing, it is vital that you have an emergency fund.
Good investing is all about long term investments that one can expect to pay off after several years (~5 – 10 years) time.
It is important that you be disciplined and stay the course during market volatility an inbuilt feature of the stock market.
When investing for the long term, you should factor in dispersion i.e. a measure of the inherent risk and volatility that an investment yields.
You need to be aware of this and not panic sell your investments just because of a temporary market decline.
Although past performance does not indicate future returns, the overall stock market generally trends upwards and has shown to recover from corrections.
However, one question I cannot answer is how much time it will take to recover.
After all as renowned economist, John Maynard Keynes said,
“the markets can remain irrational longer than you can remain solvent.”
This is where your emergency fund comes in.
When life gets in the way, you will not want to liquidate your investments to deal with the emergency when you are seeing a sea of red with your portfolio and miss the recovery.
2. Stay The Course
I’m sure you have heard the term: always do your due diligence countless times.
But bear with me.
Doing your due diligence is all the more important during a market crash as it provides you with the conviction to hold on to your investments when the price falls.
But when your investment portfolio falls dramatically for temporal reasons we might give in to fear and panic-sell wiping out all our efforts spent on doing our due diligence on an investment.
Unfortunately, decisions made in fear will be detrimental to our long-term investment returns.
There are compelling reasons to sell your investments but selling during a stock market crash or correction is not one of them.
3. Invest Without Emotion (Dollar Cost Average)
Dollar-cost averaging is a time-honoured investment technique of investing a fixed amount of money into a particular investment on a regular schedule.
P.S. Check out our analysis and comparison of the Dollar Cost Averaging vs Lump Sump investing strategy.
One of the pros of this investment strategy is that it takes the emotion out of your investing.
And managing your emotions when investing is vital as investing great Peter Lynch who ran the Fidelity Magellan Fund between 1977 and 1990 would attest.
During those 13 years, the fund posted an annual average return of 29%. It beat the S&P 500, an index tracking 500 large corporations in the US, in 11 out of 13 years.
Here is what he has to say about investing:
“I’ve always said, the key organ here isn’t the brain, it’s the stomach. When things start to decline – there are bad headlines in the papers and on television – will you have the stomach for the market volatility and the broad-based pessimism that tends to come with it?”— Peter Lynch
By automating your investments, you are drowning out the noise and investing steadily for your future or whatever financial goals you want to achieve.
But, this strategy can be refined some more.
4. Set Aside a Warchest (And Buy The Dip)
This may seem a bit counter-intuitive but you should rejoice when share prices fall.
as Warren Buffet would attest.
“If you are going to be a net buyer of stocks in the future, either directly with your own money or indirectly (through your ownership of a company that is repurchasing shares), you are hurt when stocks rise. You benefit when stocks swoon. Emotions, however, too often complicate the matter: Most people, including those who will be net buyers in the future, take comfort in seeing stock prices advance. These shareholders resemble a commuter who rejoices after the price of gas increases, simply because his tank contains a day’s supply.”
As established earlier, we cannot possibly predict when the stock market crashes and correction would happen.
But, we can take advantage when it does.
Provided you have done your homework on stocks or an investment product.
Here are three simple steps you can take to prepare for a stock market crash or correction when it happens:
- Have some spare cash on hand to deploy quickly should a stock market crash happen
- Create a shopping list with the exact trigger price
- Most importantly, take massive action. As Warren Buffett once said, “Be fearful when others are greedy. Be greedy when others are fearful.”
Did you know that we have a helpful community at Seedly where you can interact with fellow investors and get stock ideas?
Personally, I dollar cost average every month when my salary comes in.
But, I set aside some cash in a low-risk and liquid short term investment like an insurance savings plan or cash management account; ready to deploy into the markets once I see a stock market crash or correction (~5% – 10% decline) happening.
In other words:
5. Diversify Your Income Sources
Last but not least, you should consider diversifying your income sources.
If there is anything we can learn from the COVID-19 pandemic is that life is unpredictable.
Who would have taught that such a tiny virus could cripple the hospitality, travel and live entertainment industries.
When a market crash occurs, it is usually when the economy is doing terribly and companies cut back on their hiring or retrench their staff
Unfortunately, this means that people would lose their jobs and income at the worst possible time.
This time around workers from the above-mentioned industries lost their jobs. But there is no telling which industries might be affected next.
Most people who’s only source of income was from their jobs were very vulnerable when they lost their jobs.
If you want to be prepared for anything and continue investing/growing your wealth or at the very least not have to tap into your emergency fund even if you lose your job; it is important to find another source of income on top of your day job.
You could start with this guide to picking up a side hustle.