For a lot of people, a stock market correction is a beautiful thing. Theoretically, corrections adjust equity prices to their perceived actual values or "support levels" where the business is being fairly valued. In reality, it's much simpler than that. Prices go down because of reactions to expectant news, actual news, and/or investor profit taking. While most people's retirement plans are mutual funds, and not individual stocks, fund managers rarely take profits at the top but often take losses as the market goes down. Here's a list of ten things to think about doing during a correction, or to avoid doing, during corrections of any magnitude.
1. Don't Change Your Asset Allocation. Your asset allocation should be tuned in to your long term goals and objectives. Resist the urge to change your allocation just because you expect a fall in stock prices. That would be an attempt to time the market, which is almost impossible. Continue buying the best mutual funds and stocks at a discount and relax.
2. Do Take a Hard Look At The Past. There has never been a correction that has not proven to be a buying opportunity after enough time has passed. The market will come back at some point, so start collecting some high quality, dividend paying, stocks as they move lower in price. This is especially true if you have 30+ years before retirement.
3. Don't Hoard Cash. Put your money to work! Remember, there are no crystal balls, and no hindsight in any investment strategy. Focus on the best stocks and mutual funds that are available for a discount during the market's sell off.
4. Do Take A Look At The Future. No, you can't tell when the rally will come for stocks, or how long it will last either. If you are buying quality equities on sale (as you certainly should be), you will love the rally when it finally shows up.
5. Don't Rush Your Purchases. As the correction continues, buy more stocks and mutual funds slowly, and establish your new positions slowly as well. Hope for a short and steep decline in prices, but be prepared for a longer one. Once a market turns it could bring years of buying opportunities to you.
6. Do Increase Contributions. You should be out of cash (and buying good companies) while the market is still correcting. Take this opportunity to buy! As long your cash flow doesn't change at home each month, then the change in market value is only hypothetical. Remember, if you didn't take the profits at the top, then the money was never yours to lose.
7. Do Go Long. Examine your holdings for opportunities to average down on your favorite stocks or mutual funds. Remember to look at pricing in EPS or the P/E ratio. If is was a good buy at a P/E ratio of 25, then it's a better buy at 15.
8. Do Identify New Buying Opportunities. By using a consistent set of rules and knowing what your investment strategy is ahead of time, youw ill find new buying opportunities in the market. Focus on value, or stocks with consistent earnings. Now only is it easier and less risky. It is also better for your peace of mind. Coca Cola, Amazon, and Wal-Mart are not going out of business anytime soon.
9. Do Examine Your Portfolio. When you have your asset allocation and investment objectives clearly in focus, you can focus on the big picture and not price changes. Yes, stocks will lose value in a correction, but the company may be as strong as it ever was. Make sure your portfolio lines up with your goals.
10. Don't Look Down. So long as the market is down in price, there is nothing to worry about overall. Don't watch the market fall out, just keep focusing on your individual stocks and funds. As long as the fundamentals haven't changed, then the company is still worth investing in.
Corrections and depressions will vary in length of time and price reductions. Both characteristics are only visible in rear view mirrors. The short and deep corrections are the most lovable, the long and slow marches down in value are more difficult to deal with for most investors. The market has been goos for a long time and people forget that recent corrections have been too short to take advantage of. Unlike many things in life, stock market investments need to be dealt with quickly, decisively, and with zero hindsight. During all of the uncertainty that occurs during a correction, there is one undisputable fact; there has never been a correction/rally that has not been corrected in the next rally/correction.