In Hitchhiker’s Guide to the Galaxy, each celestial hitchhiker would carry a guide with him or her. Emblazoned on the cover of that book were the words, “Don’t Panic.” Perhaps investors who have been watching the market fall over the last couple of days should take the same advice.
It is actually at times such as this a good idea to just sit pat and relax. In fact, it is after the large market drops that there is a potential to make the biggest gains. One could have made a huge return on stocks from 2009 until 2013. Likewise, there were huge gains to be made from 2003-2005, 1992-1996, and 1980-1984. Buying in after the stock market crash of the 1930’s would have been a great idea, as would buying after the crash in 1987. Many times stocks will recover to their previous highs within a year or two after a downturn,
Unfortunately, most investors do just the opposite. When stocks go up, they rush in to buy. When they go down, they sell in a panic. In fact, there are people who look at what retail investors are doing and sell when they start to buy stocks and buy when they start to sell.
This doesn’t mean, however, that you should make a huge purchase of a stock just because it has declined a few points. Just because stocks have gone down a little doesn’t mean that they won’t go lower. The act of trying to buy a stock as it declines in value is called “trying to catch a falling knife.” Many people who try this trick soon find that just because a stock seems cheap compared to where it was recently doesn’t mean that it can’t go lower. Sometimes stocks were way overvalued and have quite a way to fall before being reasonably valued again. Sometimes they also become very undervalued and stay that way for longer than you would think.
The best thing to do if you have some cash on the sidelines is to buy in slowly. Make a small purchase, wait a few days or a few weeks, and then buy a little more. Do this each time there is another decline. While you may not buy shares at the lowest possible price, at least you’ll be paying less than you would have a few days ago. By purchasing in installments you won’t have the psychological effect of taking a loss and starting to wonder if you made a mistake in buying the shares. Many people who see a stock continue to fall panick and sell out right before the stock was about to rebound. If you keep some cash on the sideline, you will be hoping for the shares to go lower since that means you can buy some shares at a lower price.
It is also a great time to save up some cash from your job and buy some additional shares as you can. Perhaps also put some money into your IRA for next year (or put some money into your IRA for this year if you haven’t already.
Just remember to not panick. If you find yourself worried, there is nothing wrong with just ignoring the market for a few weeks. Things will be just fine.
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Disclaimer: This blog is not meant to give financial planning advice, it gives information on a specific investment strategy and picking stocks. It is not a solicitation to buy or sell stocks or any security. Financial planning advice should be sought from a certified financial planner, which the author is not. All investments involve risk and the reader as urged to consider risks carefully and seek the advice of experts if needed before investing.