Let’s not beat around the bush. You know what’s up and what we’re about to wade into.
We just saw the largest intraday Dow drop in history and the Dow closed down 8.5% from the last peak yesterday.
At one point, it swung 500 points in five minutes as the algorithmic trading programs kicked in and bounced the index off of the 10% drop level.
The only thing that kept us out of a full-blown rout, where the stock market trips a circuit breaker and shuts down, was that there were more automatic buy orders than sells at that level.
I’m thinking:
- Ain’t nobody got time for another big postmortem, and;
- We’re all better off if we get straight to the hows.
Specifically, how we were expecting this (and always should), and how we’re going to turn it to our advantage.
Smell the Fear
A 5% to 10% drop in a week just feels really scary. And it should be scary, but not this much.
5% corrections are very common. We’ve now had 15 during the raging bull market that followed the bottom in March 2009.
It’s normal, natural, and they aren’t that bad. Most bounce back within days or weeks to prior levels on no new news.
However, we haven’t seen a 5% correction in 399 trading days leading up to the peak on January 26, 2018.
10% corrections aren’t as common, but are still perfectly normal. In addition to several near misses, we’ve had four since the Great Recession: 16% from late April to early July 2010, 19% from late April to early October 2011, 10% early April to early June 2012, and 11% mid-July to late August 2015.
The herd is showing how terribly complacent it has become. It’s had over nine years of shrinking volatility and a bull market run.
It’s had over a year-and-a-half since the last 5% drop, and about two-and-a-half years since the last 10% drop.
In other words, this kind of thing hurts but we should be used to it. The herd is thin-skinned and you can smell the fear in the air.
Two Lessons To Remember
We can break down how we should react to any sizable correction into two key reminders.
1. You don’t see a profit or loss until you sell, but you never recover from lost time.
There is a possibility that added stress during a correction will break something, making a correction a full-blown rout. I don’t want to ignore that fact.
However, those percentages you’re seeing for any positions or retirement accounts are not permanent unless you exit a position.
The Dow just barely dipped into the red year-to-date at -1.78% at yesterday’s close. Now we’re seeing a small bounce up today. This appears to be just be a tiny dose of reality.
Don’t worry about eroding paper gains, or paper losses, and don’t sell unless the fundamentals of your positions have changed and the upside potential is gone.
Know the catalysts that will cause a position to gain or lose value, and act accordingly.
The only thing to truly worry about is lost time. The Dow has been set back about two months, returning to the level it first hit on December 8, 2017.
That is nothing like the multi-year setbacks seen in past corrections, or the decades-long reversals from the Great Recession.
2. Market-agnostic investments are an important part of diversification.
What I’m talking about here are investments that “don’t care” what the market does, unless it utterly implodes.
This can take many forms, and you should find some that fit your outlook and keep them in your overall portfolio.
You have some options here, but the market is awfully expensive in almost every sector, and nothing stands out more right now than gold.
Besides the fact that gold is a tried-and-true hedge to market drops and volatility, the timing for new gold positions right now has a unique advantage.
Gold stocks have not seen the kind of run-up in valuation that the broader market has. They have become some of the few true-value stocks available.
The crash we’ve seen over the last week was largely driven by something that should have been a huge positive: a good jobs report with strong wage growth.
We’re still in a weird, inverted bizarro world of investing, where good news means the Fed will take away the punch bowl. And it’s late in the game, with very troubling signs in earnings reports, the bond market, and technical charts.
What goes up must come down. The inverse is often true in the stock market, and right now what was down is going up. Now is the time to establish positions in gold.
