The first correction in the stock market can be a real psychological test for a novice investor. It’s hard to keep cool looking at how your capital is reduced by tens of percent in a matter of weeks or even days. Especially if the money invested in securities is the basis of family savings.
Over the past two years, many newcomers have entered the stock market. Most of them faced a correction for the first time after a long period of rapid growth, and this came as an unpleasant surprise for them.
Dynamics of the number of clients on brokerage services, million
At the same time, corrections in the stock market happen quite often. At least once every one or two years, there are usually drops of 10-30%, and about once every ten years there are real collapses, when the index falls by 40-70%.
Over the seven years of my presence in the stock market, I have developed for myself certain principles for managing an investment portfolio that help me stay calm during periods of panic, volatility on the stock exchange and falling asset prices by tens of percent.
- Working for Your Own—No Leverage When I’m in the market, I’ve completely abandoned the use of leverage to buy securities, even if it seems to me that the issuer is seriously undervalued relative to its true intrinsic value. Buying only on my own, I can calmly wait out drawdowns in the market of any depth and duration. I have no risk of getting on a margin call – when the broker requires the investor / trader to deposit additional funds into the account in order to avoid forced closing of unprofitable positions.
- Always have a cash cushion as a cash cushion
Cash is a reassuring and reassuring tool in times of significant market downturns. Correction in the market is perceived as a temporary sale and an opportunity to purchase assets of interest at a reduced price.
In addition, a crisis in the market may coincide with financial difficulties in life. In this case, financial holes can be closed by means of a safety cushion specially created for this purpose, instead of selling your securities at reduced prices.
- Have Alternative Sources of Income
Another way to be independent of current market conditions is to have alternative sources of income and a stable cash flow.
Many people dream of financial independence through the stock market. But this can lead to another dependence – on exchange earnings, and hence the current market conditions. Emotions are the worst enemy of smart investments. The fear that a drop in investment income will negatively affect the family’s standard of living can cause an investor to act irrationally and make mistakes.
Having a regular cash flow outside the exchange, sufficient for a habitual lifestyle, increases the financial and emotional stability of the investor.
- Invest in the market only the money that is not needed for current consumption
For me, the stock market is a place where you can store excess money that is not needed for everyday spending. Investments are an opportunity to “teleport” capital in time, protecting it from inflationary risks and making it work.
However, short-term market volatility does not allow me to place in securities the money that may be required in the near future. At any moment, a correction may begin on the stock exchange, and this will affect my short-term plans.
- Not Predicting Where the Market Will Go
When I first got into the stock market, I quickly realized that I wasn’t good at predicting market fluctuations. In general, it can be assumed that the market will continue to periodically fall in the future, while small corrections will occur more often than large collapses. But the timing, length, and depth of these falls are difficult to predict.
Therefore, I do not predict such events. My investment approach assumes that I keep in mind the simultaneous likelihood of one of three events: a sharp increase, a deep fall, a long stagnation. And I form my portfolio in such a way that none of the scenarios becomes a shock for my long-term strategy.
- Don’t guess where the bottom is and don’t try to catch it
I’m not trying to catch the lows and highs, either for the market as a whole or for individual stocks. Trying to guess the next bottom or the next peak is more like gambling with bets than a thoughtful investment process. I buy and sell assets at prices that suit me, no matter how much the price has fallen or risen before.
- Use fundamental analysis and have an understanding of what is in the portfolio and what is its real value.
I make buying and selling decisions based on fundamental analysis and my own assessment of the intrinsic value and potential of the business.
The best way for an investor to avoid mistakes is to understand what you own and what the real value of this business is. Then short-term fluctuations in quotes and the general information background will not affect long-term investment decisions.
It can be difficult for novice investors to keep even a very good asset if its price rises sharply or, conversely, falls. But excessive activity often leads to lower potential returns.
- Buy stocks only for the long term
My investment horizon is decades. With this approach, short-term fluctuations within a day, a week, or even a month do not seem so significant as to somehow specifically respond to them. Even a year is a short period for me to draw some serious conclusions and significantly adjust my strategy.
Also, I don’t buy the issuer’s shares unless I plan to hold them for more than three years . Most of the stocks in my portfolio were bought several years ago and at more attractive prices than those offered by the market even after a 20-30% correction.
A long-term strategy allows you to look at the market on a different scale, in which events and forecasts that are important at the moment seem like another storm in a glass.
- Stop looking for the causes of falls and rises in the external background and current operating and financial results
A novice investor spends a lot of emotional energy to figure out why a fall or rise occurs, what forces are behind market volatility and how they will affect quotes in the future.
The market falls because there are more sellers than buyers at the moment, and it grows because there are more buyers than sellers. And I’m not looking for another explanation, because it will use up my internal resources, but is unlikely to improve the long-term investment result.
I am a supporter of the thesis that Benjamin Graham formulated almost 100 years ago: “The stock market is like a voting machine in the short term, but like a weighing machine in the long term.”
- Do not enter the terminal unless absolutely necessary
The best way to reduce stress during corrections is to enter the trading terminal less and get distracted more often by real life, its joys and challenges.
While the loss is not fixed, it remains only on paper, and the fall in quotes often does not affect the quality of the business. Long-term investors, unlike active traders, have one significant advantage – they do not need to look at the screen all day to earn. Issuers in their portfolios continue to work and generate income, even if the stock quotes have corrected in the moment. This means that the cash flow that the business generates can be expected to be directed by management to increase intrinsic value and/or pay dividends to shareholders.
