How to Weather a Market Correction
Sometimes stock prices drop across the entire market at once triggered by a range of things, such as a natural disaster, political turmoil, concerns over rising interest rates, a global health crisis, or problems within a single sector that cause a domino effect across the market.
A decline in stock prices of 10% from their most recent high is called a market correction. Long-term investors experience many of them over the course of their lives. So, if you’re investing for retirement or another long-term financial goal, you need to know different strategies to help weather a market correction to help you from being blown off track.
What is a market correction?
The common definition of a market correction is a drop in average stock prices of at least 10% and less than 20% from the recent peak. Once prices return to the most recent high, the market is said to have “recovered” from the correction.
A drop in prices of at least 5% and less than 10% is known as a pullback or dip. And drop of 20% or more is a crash. On average, crashes take longer to recover from than corrections do.
For example, between 1950 and 2022, market corrections in the S&P 500 took between 13 and 531 days to hit their lowest point and begin to recover, with the average correction lasting around 126 days. Crashes of 20% or more, on the other hand, took anywhere from 33 to 929 days to bottom out, with the average crash lasting 391 days.[1]
Investors can’t know for certain that a correction isn’t a crash until it’s over. If stock prices drop by 14%, the trend could reverse course from there and return the market to its previous peak. On the other hand, prices could continue to fall, eventually dropping by 20% from recent highs, resulting in a crash.
How to invest during a correction
Market corrections don’t occur on a regular cycle and are not easy to predict. That means predicting a correction and pulling your money out of the market just before prices drop may not be a feasible strategy.
Historically, we believe the thing to do during a correction has been to sit tight and ride it out. That’s because stock market corrections have always been followed by recoveries. And you can only potentially benefit from the recovery if you hold onto your investments. If instead you panic and sell, you’ll lock in your losses.
Keeping cool as you watch the value of your investments drop is easier said than done. It can be helpful to tune out the endless market coverage if needed. You may want to speak with your financial advisor who can help put the market correction into historical perspective and keep your focus on your long-term investment goals.
Corrections can provide helpful insight into changes you may wish to make to your portfolio. If seeing your assets go into the red triggers debilitating anxiety, you might have a lower risk tolerance than you originally believed. Your financial advisor can help you reassess your asset allocation and potentially tweak it to better fit your needs.
Market corrections are an unavoidable fact of long-term investing, and a sound financial plan takes them into account. If you’ve already got an investment plan that reflects your unique situation, we believe the best thing to do during a market correction, based on the historical performance of the stock market, is to remain committed to your plan.
SOURCES:
- https://www.forbes.com/advisor/investing/stock-market-correction/
- https://fortune.com/2021/12/01/stock-market-pullback-correction-crash-how-to-tell-the-difference/
Material prepared by Oechsli a third party non-affiliated with Raymond James.
Any opinions are those of Steven Bayardelle or The Wang Group and not necessarily those of RJA or Raymond James. The information contained in this report does not purport to be a complete description of the securities, markets, or developments referred to in this material. The information has been obtained from sources considered to be reliable, but Raymond James does not guarantee that the foregoing material is accurate or complete. Any information is not a complete summary or statement of all available data necessary for making an investment decision and does not constitute a recommendation. Investing involves risk and you may incur a profit or loss regardless of strategy selected. You should discuss any tax or legal matters with the appropriate professional.
The S&P 500 is an unmanaged index of 500 widely held stocks that is generally considered representative of the U.S. stock market. Keep in mind that individuals cannot invest directly in any index, and index performance does not include transaction costs or other fees, which will affect actual investment performance. Individual investor’s results will vary. Past performance does not guarantee future results.
[1] Yardeni, “Stock Market Briefing: S&P 500 Bull and Bear Market Tables,” 2022.
