- A stock market crash is different from a normal correction and happens once a few years.
- During the pandemic, the record highs in some of the benchmark indices across the globe and uncomfortably high valuations of some popular growth stocks have become a major concern.
- During these times you can take exposure to safe heaven assets such as gold, to stabalise the portfolio’s volatility and minimise the risk.
Predicting a stock market crash is not easy. A lot of renowned investors have had their fair share of failures when calling a crash. A stock market crash is different from a normal correction and happens once a few years. The most recent example is the COVID-19-led stock market crash in March 2020. So, what is it about stock markets that alerts investors to run for a cover before the storm?
Currently, some investors think that we are in midst of another big bubble in financial markets, which is just getting bigger. The primary concern of investors is that the coronavirus is not likely to go anywhere anytime soon. The world has witnessed the pandemic’s severe impact on the economies. Additionally, the threat of new and more contagious mutations of COVID-19 continues to loom large on a global scale.
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Another reason investors feel worried is that the market has been going up, ignoring the risks for more than a year now and that’s somewhat not aligning with the current economic scenario. With vaccination drives underway and reopening of the economies, the future visibility of the companies’ earnings has improved, even though the situation is no way better than the pre-pandemic times. The record highs in some of the benchmark indices across the globe and uncomfortable valuations of some popular growth stocks probably aren’t justifying the risks ahead.
The third major concern is inflation. The interest rates are at record lows in many countries, encouraging the economies to get back on their feet. However, keeping the interest rates low also has a negative effect on the economy as it gives rise to inflation. The recent inflation figure in the US spooked investors with a rise of 5.4% in June 2021, the biggest monthly rise since the last crash in 2008. Stock markets generally don’t do well during an inflationary period, although commodity-based businesses perform quite well.
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So, if the crash is coming, what can you do?
Going by the name, a stock market crash sounds like an adverse event, which it is (for some). At the same time, these events are probably once-in-a-lifetime opportunities to grab dirt cheap deals which otherwise would never be available. As a famous saying goes in the stock market “You make money in the bull market based on your decisions in the bear market”. So here are a few suggestions to make the most of the next crash (whenever it comes).
- Keep cash ready
As mentioned earlier, the share prices for some of the strongest companies would be available at mouth-watering cheap levels during a crash. You would want to seize this opportunity by lapping up those stocks that have fundamentally strong businesses and robust balance sheets. It is also important to steer clear of the noise, as in all that melee, it is easy to get tricked by the surrounding panic and eventually miss the opportunity.
As Warren Buffett say, “Be fearful when others are greedy and be greedy when others are fearful”. When there’s too much blood on the street, that is probably an ideal time to get in.
- Be diversified
Diversification simply means to allocate your capital into various asset classes or sectors of economy. Diversification is one of the effective ways to reduce the volatility of the portfolio. It also helps to tone down the concentrated risk of any on security. During a market crash, investors chase safe heaven assets such as gold which is why these assets tends to appreciate in value during a stock market crash.
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During these times you can take exposure to these safe heaven assets, which helps stabilise the portfolio, by toning down volatility and minimises the risk.
- Weed out junk stocks
During a bull run (like the current one), every stock tends to perform well. Even a low-quality company’s share price tends to rise in the value. However, when the tide turns, only those with sustainable businesses, strong cashflows and strong balance sheets survive, the rest all go to the dogs.
Holding a junk stock in hope to see it reach the breakeven price is one of the biggest mistakes committed by investors during a crash; weed them out and add high-quality companies.