Let’s not beat around the bush. You know what’s up and what we’re about to wade into.
I’m thinking:
- It’s Monday and ain’t nobody got time for that, and;
- We’re all better off if we get straight to the hows.
Specifically, how we were expecting this (and always should), and how we’re going to turn it to our advantage.
Smell the Fear
A 5% to 10% drop in a week just feels really scary. And it should be scary, but not this much.
5% corrections are very common. We’ve had 13 during the raging bull market that followed the bottom in March 2009.
It’s normal, natural, and they aren’t that bad. Most bounce back within days or weeks to prior levels on no new news.
10% corrections aren’t as common, but are still perfectly normal. We’ve had three since the Great Recession: 16% from late April to early July 2010, 19% from late April to early October 2011, and 10% early April to early June 2012.
The recovery may be bumpier and take longer, but it always happens.
The herd is showing how terribly complacent it has become. It’s had over six years of low volatility and a bull market run. It’s had 10 months since the last 5% drop, and over three years since the end of the last 10% drop.
There is nothing new out there to drive the drop. China has been a mess for ages in spite of questionable interventions, global growth is tepid, and domestic fundamentals are weak.
Outsider Club editors, myself included, have been pointing out the issues with earnings and revenue growth problems for many months now.
If anything is a surprise, it is because investors have willingly ignored the signs that the market is significantly ahead of itself with high multiples, and that there is significantly more downside than upside as a result.
Three Lessons To Remember
So, on to the good part. How are we going to make this work for us?
We can break this down into three lessons that we should all keep in mind, even when volatility is low and the market coasts upward.
1. You don’t see a profit or loss until you sell, but you never recover from lost time.
There is a possibility that added stress during a correction will break something, making a correction a full-blown rout. I don’t want to ignore that fact.
However, this appears to be a return to reality.
Those percentages you’re seeing for any positions or retirement accounts are not permanent unless you exit a position.
The real problem here is time. Friday saw the S&P 500 blow through 2000, and the Dow through 17,000. These levels were first reached back in late August 2014, and in early July 2014, respectively.
This morning, the indices returned to levels first hit in May 2014 and November 2013, respectively.
Investments based on these indices, or equities with strong correlations, have effectively done nothing for you in the last year.
You can make and lose money, both on paper and in reality, but that time is gone and never coming back.
We’re all a year-and-a-half closer to retirement. We all have one less year-and-a-half of income and contributions we can make.
Don’t worry about eroding paper gains, or paper losses, and don’t sell unless the fundamentals of your positions have changed and the upside potential is gone.
This correction will end and we’ll return to prior levels. Worry about that lost time.
2. Market-agnostic investments are an important part of diversification.
Gold, silver, and other precious metals traditionally acted as hedges for stocks. That negative correlation has broken down somewhat in recent years, but they still fit the bill.
However, what I’m talking about here are investments that “don’t care” what the market does, unless it utterly implodes.
This can take many forms, and you should find some that fit your outlook and keep them in your overall portfolio.
The options here are certainly not as broad as the market, but you have plenty of them.
Just look at two different approaches taken by two of our editors. They are different, but not opposed.
Nick is bullish on explosive growth in a vastly under-appreciated energy play: uranium. This is one energy play that will rapidly grow from strong demand and government intervention.
On the other side, Jim Collins uses a two-pronged approach.
First is an income play using little known “baby bonds” to capitalize on higher yields from corporate debt. Unlike bonds, these positions are easily traded in any account, cost less than most stocks, and return consistent payments that rapidly compound through reinvestment.
Second is intensive research and investment into small and microcap stocks that are wildly under-valued.
This hybrid approach combines the best of both worlds — income and speculative positions — that don’t march to the market’s drum.
3. Have a plan for how to invest when the dust settles.
Finally, have a plan for how you will react to different types of events, plus a plan for what to do in the aftermath.
Corrections, though common, are a traumatic event for investors and markets alike. People oversell, and they do it in very uneven ways.
This means that you can take advantage and quickly build positions in some of the safest — and most lucrative over the long term — stocks and ride the recovery to ramp up your wealth.
