Anyone who's been following the stock market lately knows it's been a killer year so far. But that doesn't mean things can't take a turn for the worse.
Stock market downturns are somewhat inevitable, and corrections, where the market loses 10% of its value or more, are relatively common. In the past 70 years, in fact, the S&P 500 has seen 37 of them.
The good news? Downturns can be relatively short-lived, and most of the aforementioned corrections resolved within less than four months. What you really need, therefore, is a strategy to ride out the next storm, and here's how to do just that.
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1. Have a solid emergency fund
The one thing you need to remember about a stock market downturn is that you don't lose money until you actually sell your investments at a loss. Imagine you buy a given stock at $90 a share, and its value drops to $60 per share when the market tanks on a whole. On paper, you're out $30 per share you own. In reality, you're out nothing unless you actually unload those shares at a lower price than what you paid for them.
What does that have to do with emergency savings? It's simple. If you have adequate cash reserves on hand, you won't be compelled to sell your investments at a loss when the need for money arises. And if you leave your portfolio alone, there's a very high likelihood it will regain its value in due time.
Ideally, you should have enough money in emergency savings to cover three to six months of essential living expenses. If you're really worried about a stock market crash, aim for the higher end of that range. And to be clear, that money should sit in a savings account to ensure that it can't lose value and is easily accessible to you.
2. Have some extra cash on hand to invest
A stock market downturn is generally considered a negative event -- but actually, if you play your cards right, it could turn into a solid opportunity to make some money. The reason? If you have cash on hand, you may get to buy some quality stocks on the cheap.
Let's go back to our example. You bought Company X at $90 a share and now it's worth $60, not because that company missed earnings projections or got wrapped up in a scandal, but rather, because the market on a whole is down. If you were to scoop up some additional shares of that stock at $60 apiece, there's a good chance they'd eventually climb back up to $90 or above, at which point you stand to gain.
That's why it pays to set aside additional funds to buy stocks when the market is down. That money, however, should be separate from the funds you earmark for emergencies. If you tap your emergency savings to buy stocks at a bargain but then lose your job three weeks later or encounter another bill you need to cover, you won't end up doing your finances any favors.
If the idea of a stock market downturn is enough to keep you up at night, don't let it. Instead, have a plan -- hopefully, one that allows you to coast through a correction unscathed, and maybe even make some money off it in the long run.
