Last week, an investor asked me, “If there is a stock market sell-off and money is withdrawn from the market by an exodus from ETFs/mutual funds, how does one protect him/herself as fundamentals will not matter?”
My answer to that question can probably help many investors clarify their investment strategies and find productive ways to deal with stock market volatility.
The vast majority of stock investors are going to experience big drops in portfolio values during bear markets or market corrections, and there isn’t too much that we can do about it. So the key question becomes, “Are you brave enough to let your stocks recover in the coming months?”
There are a small percentage of stock investors who successfully use strict stop-loss disciplines, but I can’t recommend that style of investing to my broad subscriber base because very few investors really master the task. I know from experience that using stop-loss orders is a fine art that often causes investors a lot of angst.
Knowing in advance that our stocks will fall periodically, through no real fault of their own, here are a combination of investment strategies that I recommend:
- Stick with high-quality companies, so that when your stock falls dramatically, you can retain confidence in the company in which you’re invested. As a hypothetical example, “XYZ Company (XYZ) is an excellent, growing company, and the share price just fell 30% for no good reason. I will hold my shares and await the rebound.”
- Keep cash on hand, so that you can “buy low” during market downturns, thereby turning lemons into lemonade. “Wow, I’ve always wanted to own ABC Company (ABC), and the share price is down 25% this year. It’s now or never! Let’s buy some shares!” The same holds true for buying additional shares of the great stocks that you already own.
- I don’t sell high-quality stocks during market downturns. But I do move most of them from Buy to Hold recommendations during the obvious price drops. Then I move them back to Buy recommendations when the price charts seem to indicate that they’re going to rebound soon. And with dividend stocks, you can lock in quite an attractive yield during market downturns, which I frequently point out to investors.
Over the short term, stock market action is driven by human behavior and news headlines. Over the longer term, stock market action is driven by corporate successes/failures and the economy. The more we are able to disassociate ourselves from the fear that emanates from short-term market moves, the more we’re able to sit back and ask ourselves, “How can I capitalize on this nonsense?”
Many of the stocks in my Cabot Undervalued Stocks Advisor portfolio are still recovering from the steep stock market downturn that occurred in the fourth quarter of 2018. The average annualized total return per completed stock trade is 16.99%. (“Total return” includes dividends.) Prior to the fourth quarter of 2018, however, that figure was in excess of 23%, so you can see the short-term impact of a difficult stock market. As long as their fundamentals (profits, valuation, etc.) remain strong, I’m going to give those stocks some rope and allow them to recover.
If you’d like to join me, and gain access to my market-beating portfolio and hear more of my go-to investment strategies, you can become a Cabot Undervalued Stocks Advisor subscriber by clicking here.