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The Stock Market Rally: Should I Buy Now or Wait for a Pullback?

By Brian Feroldi - May 24, 2020 at 6:00AM

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Markets have bounced back sharply from their March lows. Here's what to do if you missed the bottom.

2020 has been a crazy year for investors.

The Dow Jones Industrial Average, S&P 500, and Nasdaq all started the year strong, with the three major U.S. indexes trading at all-time highs in February.

Bear and bull standing near a growing stack of coins

Image source: Getty Images.

You know what happened next. COVID-19 went from a minor news story to a full-blow black swan event.

Economic activity started to slow. Traders panicked. Markets crashed. U.S. investors witnessed the fastest bear market in history. 

As of mid-March, all three indexes were in deeply negative territory. The news was bad. The future looked bleak.

Then, things got even weirder.

The major market indexes all bottomed on March 23 (so far). They've been rallying hard ever since.

^NA100TR Chart

^NA100TR data by YCharts.

During this crazy period, I've spent a lot of time in The Motley Fool's live video chat with our members.

In the past few weeks, I've gotten the same few questions over and over again:

  • Did I miss the bottom?
  • Is it safe to invest now?
  • Is another downturn coming?

There are no easy answers to these questions. Predicting short-term market movements is impossible. I don't even pretend to try.

So what can investors do? Rather than trying to time the market, here are three strategies that I believe are worth pursuing:

1. Buy greatness

My personal investment strategy is straightforward: 

  • Identify the highest-quality companies on the market according to the criteria that matter most to me.
  • Buy them when their valuations are attractive.
  • Hold them until they are no longer great.

What I love about this strategy is that it puts time on my side. I don't have to overthink about where we are in the news cycle. Instead, my strategy rests on the fact that great businesses consistently create huge amounts of value for their investors over time.

In fact, I firmly believe that if your time frame is long enough, it's almost impossible to overpay for truly great businesses.

Looking back on my own history, I've noticed that some of the best investing decisions I've ever made were to buy great growth stocks that were trading at all-time highs: Amazon.com (AMZN -0.21%), Netflix (NFLX 0.14%), Mastercard (MA 1.85%), Shopify (SHOP -1.25%), and more.

I purchased all of these stocks at all-time highs, even though many of them were trading at "high" valuations at the time. They have all since become multibaggers for me.

While it can be mentally challenging to buy a great business today that could have been purchased at half the price just a few weeks ago, that doesn't automatically make it a bad idea.

I always try to keep this Warren Buffett quote in mind:

Time is the friend of the wonderful company, the enemy of the mediocre.

2. Search for value

The markets have come roaring back to life, but not all industries and stocks have participated in the broad-based strength. 

Several sectors -- REITs, energy, retail, and financials -- are still trading well off their former highs. There are likely to be plenty of bargains to be had in these parts of the markets.

There are also plenty of individual stocks that have been beaten up and are still trading at bargain prices. Two companies that I own and like very much for the long term, Abiomed (ABMD 0.87%) and HealthEquity (HQY 2.08%), are currently down more than 40% from their all-time highs. I think these two are bargains hiding in plain sight.

There are lots of other great deals available if you know where to look. 

3. Invest mechanically

I'm a big fan of dollar-cost averaging. With this strategy, you're investing a fixed amount of money according to a pre-set schedule no matter where the market is trading.

This method works beautifully because it mitigates certain risks inherent in investing. It shifts your focus to accumulating assets instead of trying to identify the best time to get in.

If this idea appeals to you, a simple strategy is to just set up a system to automatically buy broad-based index funds every month and call it a day.

Another strategy that I'm a big fan of was created by Morgan Housel a few years ago. He created a framework to deploy his cash balance when the market crashes.

For every $1,000 he has set aside to invest (beyond an emergency fund), he invests according to the following schedule:  

Market Falls by This Much

For Every $1,000, You Invest This Much

Historical Frequency
10% $100

Every 11 months

15% $220 Every 2 years
20% $300 Every 4 years
30% $130 Every decade
40% $125 Every few decades
50% $125 Few times per century

Table source: Morgan Housel

This simple framework is designed to take the guesswork out of the process. By simply buying on a pre-set schedule, you are maximizing the chances of getting your money invested when prices are most likely to be favorable.

Another idea is to combine the best of both worlds. You can invest a portion of your savings using dollar-cost averaging, and keep some other money on the sidelines to take advantage of future volatility.

Take the long view

No matter which strategy you choose, the most important thing you can do is create rules for yourself ahead of time and then follow your own advice.

It's also important to remember that the stock market is the greatest wealth creation tool in history. If you spend all of your time worrying about when to invest, you'll risk never getting in at all.

Perhaps Charlie Munger, Warren Buffett's partner, put it best:

The big money is not in the buying and selling, but the waiting.

 

John Mackey, CEO of Whole Foods Market, an Amazon subsidiary, is a member of The Motley Fool's board of directors. Brian Feroldi owns shares of Abiomed, Amazon, HealthEquity, Mastercard, Netflix, and Shopify. The Motley Fool owns shares of and recommends Abiomed, Amazon, HealthEquity, Mastercard, Netflix, and Shopify and recommends the following options: short January 2022 $1940 calls on Amazon and long January 2022 $1920 calls on Amazon. The Motley Fool has a disclosure policy.

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Stocks Mentioned

Netflix, Inc. Stock Quote
Netflix, Inc.
NFLX
$249.65 (0.14%) $0.34
Amazon.com, Inc. Stock Quote
Amazon.com, Inc.
AMZN
$143.25 (-0.21%) $0.30
Mastercard Incorporated Stock Quote
Mastercard Incorporated
MA
$360.82 (1.85%) $6.55
ABIOMED, Inc. Stock Quote
ABIOMED, Inc.
ABMD
$296.14 (0.87%) $2.55
Shopify Inc. Stock Quote
Shopify Inc.
SHOP
$40.25 (-1.25%) $0.51
HealthEquity, Inc. Stock Quote
HealthEquity, Inc.
HQY
$62.96 (2.08%) $1.28

*Average returns of all recommendations since inception. Cost basis and return based on previous market day close.

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