What to do in a falling market
Q: I recently invested in stocks. I tried to diversify by buying a good number of them. Unfortunately, only less than half of the stocks I bought are making money. To top it all, the stock market has been falling in the past few days. Please advise me what to do. – Sent through “ask a friend, ask Efren” at www.personalfinance.ph
A: I remember old comedy skits where they would say that it is not the fall that hurts; it’s the sudden stop. It’s no different from saying that unrealized losses will not really hurt you. It is only when you sell your investments that you will actualize the loss.
Still, as I wrote in a previous article, a loss is a loss, whether unrealized or not. The question now is what to do when these losses crop up. And so that this discussion does not turn into a sob story or an “I told you so” one, let’s use music as a balm.
Say to yourself, “I will survive.” You may have first been afraid and subsequently petrified, but losses are part of the territory of investing. Remember that the risk of loss is not the reward. The reward is the potential to reap profits to make your future more affordable and enjoyable.
Jesse Livermore, the world’s greatest stock trader, once said that you do not always have to be invested. If you incur a loss equal to 10 percent of your original investment, cut your losses before they get bigger. Then, take a break from investing. But I would be quick to add that before you do realize the loss and face the sudden stop from the fall, first get right back to where you started from. Look back to see why you bought the stock and why it is falling in price now.
If you bought the stock because you believed that the company had a great story behind it, that it was practicing solid management, finance and marketing tenets, and if you bought it at a price well below its intrinsic value, then there must be a good reason for you to hold on to it and perhaps even buy some more to average down.
You must also do the hustle in trying to find out what is causing the stock’s price to fall. If nothing has changed with the company’s fundamentals, then it must be something outside of it. If that cause is something beyond the control of the company you bought, then it may well be what is called systematic risk, a factor that impacts every company in the industry and perhaps even in the economy. No amount of portfolio strategy can diversify this risk away.
For example, when the global financial crisis hit in 2008, all stock prices fell regardless of the solid fundamentals of a company. This was because fear gripped the markets and caused manic-depressive investors to dump their holdings. Even though the 2008 crisis was more of a crisis of the West, the selling contagion spread to Asia as well.
If at the time of the 2008 crisis you were one of the more level-headed investors with his feet squarely on the ground, you would have continued to buy or at the very least not dumped stocks. And just like Warren Buffet who saw through the market’s madness, you would have made huge profits later on.
Now this is by no means a recommendation but if you had bought certain Philippine stocks in October of 2008, you could have made almost 1,500 percent in absolute return or more than 100 percent in compounded annual returns just four years later. Time after time, we bounce back. It’s just a matter of how long the healing process will take. There is no need to shed tears for fears. And just like with riding a roller coaster, the best way to shed all of that anxiety is to shout; shout and let it all out.
But if you are losing 10 percent or more on your stocks and your system of buying is just to follow the crowd, to consider stocks just because they made great gains in the past, and to apply the (sabi) “Daw” theory (a.k.a. someone who just listens to unverified tips) then say to yourself that enough is enough, no more tears. It may be wise to listen to the advice of Jesse Livermore before your losses get any bigger. Even if you say that you never felt this way before because previously you were making money, well perhaps you just got lucky.
Stock traders are always forward-looking, anticipating what the next trend will be. Handsome profits can be made with stock trading. The other route is to invest using careful research on the company’s fundamentals. Both styles of investing require size of funds, expertise and time or what I call the S.E.T. rule on direct investing.
If the main source of your earnings is from employment or business where you need to focus a lot, then you are probably not all S.E.T. to do direct investing. But do not fret; you can still invest indirectly through pooled funds. Currently, the country’s financial markets offer mutual funds, unit investment trust funds (UITFs), variable unit-linked (VUL) insurance and even pre-need plans as pooled funds. Soon to come are exchange-traded funds (ETFs) and real estate investment trusts (REITs).
If you want to learn more about investing, please visit www.personalfinance.ph. There are many free resources there for you to benefit from, including Ya!man the country’s first personal finance mobile app. You may also want to join EnRich, our public training on personal finance. Details for EnRich can also be found in the website.
So when losses crop up, look around you and see the trees of green and red roses, too. You may just be going through alternating bright blessed days and dark sacred nights.
(Efren Ll. Cruz is a Registered Financial Planner of RFP Philippines, personal finance coach, seasoned investment adviser and bestselling author. Questions about the article may be sent by SMS to 09175050709 or e-mailed to email@example.com. To learn more about the RFP program, attend a FREE orientation on April 4, 7pm at the PSE Center. Email at firstname.lastname@example.org to register.)