Image source: Getty Images.
Don't look now, but the U.S. stock market is plunging once again. The S&P 500 (^GSPC +1.46%), Dow Jones Industrial Average (^DJI +1.24%), and Nasdaq Composite (^IXIC +2.02%) tumbled between 3.4% and 4.1% on Friday after Britain shocked the world by choosing to exit the European Union, and offered no relief on Monday. The Dow, S&P 500 and Nasdaq Composite lost another 1.5%, 1.8%, and 2.4%, respectively.
With Brexit now a reality, financial pundits across the globe have begun to weigh in, with many predicting that the U.K. -- or even the global economy -- could suffer negative consequences. Investors' initial reaction has been to panic, as evidenced by the large drops we've seen in the U.S. and throughout the world. France's CAC 40, for example, is down nearly 10% in two trading days, and the FTSE MIB in Italy has crashed by more than 2,800 points, or 15.9%.
But panicking is probably the worst thing you can do. Instead of playing ostrich or selling everything you own and sticking your money under the mattress, here are nine things you should consider doing right now.
1. Realize this is normal
The first thing investors should do is realize that stock market corrections are completely normal -- and this is only a "correction" compared to the Nasdaq's recent highs (10%+). Based on data from Yardeni Research, the S&P 500 has had 35 separate correction of at least 10%, rounded to the nearest integer, since 1950. In every single instance the correction has been completely wiped out by an eventual rally. Sometimes it takes weeks, months, or even years, but stocks tend to rise over the long-term. This means panicking over a brief drop probably isn't wise.
Image source: Getty Images.
2. Assess your investment thesis
The second thing you should do is re-assess your investment portfolio. In other words, review the reasons why you purchased the companies in your portfolio in the first place and decide if they still hold true.
As an example, consumer goods giant Procter & Gamble (PG +2.07%) has fallen almost $3 per share since Brexit was announced, leading some investors to question whether or not it's time to run for the hills. However, Procter & Gamble sells quite a few products that are basic-need goods, such as Tide detergent and Crest toothpaste. Brexit may weigh on the global economy, but people still need to clean their clothes and brush their teeth, meaning selling P&G probably isn't a good idea. Really take the time to assess whether your investment thesis is broken or not.
3. Resist the urge to lever up
Yes, the stock market does tend to rise over the long run, but levering up your portfolio with the use of margin is probably not going to be a good idea.
Margin is nothing more than a loan from your broker, with your account equity (including held stocks) used as capital. Leverage varies from one investment account and security to the next, but it's fairly common for investors to be able to get two-to-four times their account equity in margin. If stocks move in the right direction, your gains are likely to be magnified. But if you try to time a market bottom and you're wrong, your losses could be magnified, and you could even lose more than you initially invested. Do yourself a favor and resist the urge to lever up.
4. Fine tune your budget
Instead of levering up with margin, consider taking the time to run a fine-toothed comb through your household budget. A 2013 Gallup poll tells us that only a third of U.S. households keep a budget, and not keeping a budget makes it difficult for us to understand our cash flow and optimally save for retirement. Luckily, online software can handle most of the grunt work these days, and can even aid in formulating a savings plan. Since we know markets tend to go up over the long-term, anytime stocks fall from their highs is, theoretically, a good time to buy. And the more you can save, the more you can buy!
Image source: Getty Images.
5. Max out tax-advantaged retirement plans
Along the same lines as fine-tuning your budget, you should seriously consider taking advantage of maxing out your annual contributions to tax-advantaged retirement accounts. Most commonly, these include tax-deferred accounts such as employer-sponsored 401(k)s and Traditional IRAs, as well as accounts that offer no upfront tax benefits, such as Roth IRAs, but do allow your money to grow over the long-term completely free of federal taxation. Striking while the iron is hot and stock valuations are nicely below their highs can pay off nicely over the long-term. Plus, with a Roth you could be substantially reducing your taxable income during retirement.
6. Stick to what you know
Another smart move to make as an investor is to stick to what you know. It can be tempting during stock market corrections to chase after companies that have been beaten down and look undervalued. But if you aren't familiar with the businesses you're chasing, you could be sorely disappointed with the results.
For instance, U.K. banks have been absolutely pulverized since the Brexit vote, with Barclays and Lloyds Banking Group down 37% and 36%, respectively, over a two-day period. These might look like fantastic deals, and maybe they are. However, U.K. banks and U.S. banks aren't comparable. Both countries have different capital requirements and regulations that cover the banking industry, and with Brexit they may now have completely different growth outlooks. Unless you're very familiar with the U.K. banking industry, or are willing to put in the effort to comb through financial reports, you might be best served staying away from U.K. banks and sticking with companies you know and are familiar with.
7. Buy basic-need stocks
You may also want to consider adding some protection to your portfolio by purchasing companies that supply a basic-need good or service, similar to Procter & Gamble above.
A pretty good example here is the United States' largest electric utility, Duke Energy (DUK 1.60%), which currently serves about 7.4 million customers. Britain leaving the EU is going to have basically zero impact on how much electricity Duke's consumers use in their households, and it's going to have zero effect on pricing since Duke's electric industry is regulated, thus shielding it from wholesale electricity market price fluctuations. In effect, Brexit is a non-factor for Duke -- but the company's 4% yield and predictable cash flow could come in handy for your portfolio.
Image source: Getty Images.
8. Consider investing in growth
You might think I'm nuts, but stock market corrections are a really good time to consider investing in growth stocks, too.
A recent study from Bank of America/Merrill Lynch over a 90-year period found that growth stocks generated an average annual return of 12.6% since 1926. Value stocks were even better, with an average annual return of 17%.
The reason you might consider growth stocks as preferable to value stocks right now is that growth stocks tend to outperform during periods of weaker growth. Growth stocks have also outperformed value stocks over the past seven years, likely a result of precipitously low lending rates, which have allowed faster-growing tech companies to use lending to their advantage by hiring, acquiring, and advancing research and development.
9. Add high-quality dividend stocks
Finally, investors should also consider adding high-quality dividend stocks to their investment portfolios. Over the long run, dividend stocks outperform companies that don't pay dividends. Dividend stocks tend to draw in long-term investors, occasionally making them less volatile; they usually have proven business models that can stand the test of time; and they can partially buffer your downside while allowing you to reinvest your payouts into more shares of stock via a process known as compounding.
Now is not the time to panic, investors. Instead, it's time to take action!
