As of last week, the major U.S. Stock Market Indexes had fallen approximately 7 percent from the September highs. These types of drops in the stock market aren’t uncommon. Almost every year — and some years, more than once — the market will drop 7 to 10 percent before stabilizing and starting its upward march again.
Exactly what triggered the most recent drop is anyone’s guess. Certainly events like the election, the ongoing European financial crisis and the looming “financial cliff” have kept the market on edge. Although we can’t really ever be certain of the cause, we can be sure of this: there have been a lot more sellers than buyers of U.S. stocks in the last few weeks.
Again, a 7-percent drop isn’t uncommon and if it turns around quickly, it’s certainly not a cause for panic. However, since we can’t tell if this drop is near its end or if it’s just the beginning of a much deeper and dramatic downward move, I would call it a cause for concern.
Given that, now is the time to closely review your investments. Look for investments that may be doing worse than their peers and rotate into those that have held up well during the recent drop.
Create an investment plan that includes an action statement such as, “if investment ‘x’ goes below a certain point, I’m going to sell it” — or alternatively, buy more of it, or simply hold. The key is to make those determinations now so that in the heat of the moment you don’t make a rash decision purely based on emotion. In the investment business, emotions can often override common sense and lead you astray.
If you are a conservative investor, selling a portion of your stock investments now to raise cash may make sense. A good question to ask yourself is this: “At this point in my life, which is worse? Selling now and missing out on a few points when the market turns back around? Or, not selling now and having the market go down another 15 to 20 percent?” Your answer will determine the appropriate action for you.
The good news is that no market goes down forever. Just as you need a defined, defensive response to an ongoing market, you also need an offensive plan. Start thinking about what action you will take when the stock market starts to go back up. Determine now what positive market events need to occur before you take action. Consider where you will re-deploy any cash you’ve raised. Examine your current stock investments with an eye for ones that are lagging on the upside. Determine if they should be sold and the money put toward faster growing areas.
Having a plan in place for market rises and falls allows you to respond in a manner that protects and grows your wealth. If you don’t have one already, take the time to create one or seek out someone to do it for you. After all, failing to plan is essentially a plan to fail.