Coming off of two extremely strong years in the market, and amid all sorts of political chaos in the country, it's a tenuous time to be an investor. Market crashes happen fairly regularly -- in fact, we've had two huge drawdowns in just the past two years! And yet, the market has surged to all-time highs.
One thing's for sure -- another crash will happen again, whether tomorrow, or years from now. But for those currently holding investments, or hesitant to buy into this somewhat frothy market, here's what happens if current fears topple over into a market crash.
Move No. 1: Keep some perspective
Rapid market declines can be awfully scary. The March crash in the wake of Covid-19 was harrowing, and despite my writing this article about being level-headed, even I was not immune from some emotional trading back then. But hey, that's why they say, "do as I say, not as I do."
But remember, as long as the world goes on, people will need to buy goods and services from someone, and that means at least some public companies will continue to make profits and grow. That goes even for when people need to shelter-in-place to save themselves from a global pandemic, shutting down a portion of the economy.
Of course, the events of last week were harrowing, and certainly led many to feel a great sense of instability. However, investors should keep some perspective and remember this Warren Buffett quote:
In the 20th century, the United States endured two world wars and other traumatic and expensive military conflicts; the Depression; a dozen or so recessions and financial panics; oil shocks; a flu epidemic; and the resignation of a disgraced president. Yet the Dow rose from 66 to 11,497.
That doesn't mean a big external event won't cause the market to go down in the near-term; however, over the long-term -- short of an authoritarian takeover of the U.S., and the shutting down of all private business -- the market's long-term trajectory is up.
Move No: 2: Make sure the short-term is taken care of
Of course, it's a lot easier to hold money in the stock market if you aren't stressed for cash in the short-term. That's why all investors have an emergency fund in cash or cash equivalents, to provide needed funds to cover a short-term emergency such as a job loss. Experts usually say that one should have between three and six months of cash at the ready in case of an emergency, although there is a case to be made that one should have more on hand, depending on one's situation.
Not only does having an emergency fund insulate you in case of near-term cash needs; it can also help you keep a cool head when the market is going down. Realizing that one may need cash only after a significant decline in the stock market can easily lead one to panic-sell at a market bottom.
Therefore, having an emergency fund is actually helpful not only in terms of covering near-term needs, but also for your investing and trading mindset.
No. 3: If Nos. 1 and 2 are taken care of, continue with your investing plan
If, and only if, numbers one and two are checked off, and you have additional funds, feel free to go ahead with your investing plan.
That plan should entail adding to a portfolio of index funds, exchange-traded funds, and high-quality stocks, according to your risk tolerance, at regular intervals, either once a week, once a month, or once every few months. If you are still daunted by this prospect, consider hiring a financial advisor.
If you're going to go with individual stocks, one caveat: Sometimes, individual stocks don't come back from market plunges. These are predominantly companies that have too much debt on their balance sheets. For instance, in the current COVID-19 pandemic, certain movie theater companies as well as cruise lines have had to issue lots of shares at low prices, or raise lots of debt at high interest rates, to prevent themselves from going bankrupt. Even if such companies do survive and stave off bankruptcy, most will never regain their former per-share value -- or won't at least for years. So if you are going to invest in the midst of a downturn, it's better to stick with companies without excessive debt.
Over the long-term, market dips can be some of the best long-term buying opportunities; however, make sure that steps one and two are checked off before you reach step three.