Today’s bad economic news coupled with investor fear over the fate of Citibank (see why I think this bank may collapse) and other financial stocks, sent the stock market spiraling to a 5 year low. A sense of panic and fear seems to have entered the hearts of many investors, including myself, and the urge to sell and get out of the market is strong. But now is not the time to sell.
Am I scared. Yes. Am I down big time. Yes, my portfolio and 401k holdings are down more than 30% this year. Am I selling. No. Even though the temptation is strong to flee the market, you must be rational when it comes to your portfolio. The following criteria can help you plan your next investment move.
1. If you do not need the cash, and can afford to ride the market volatility out over the next year then it is better to hold on to your stocks, mutual funds or ETFs and wait for things to improve.
2. Selling is not a bad move if done for the right reasons. If you are holding onto distressed companies (shares) that are facing imminent bankruptcy or other critical events then selling may be a good idea to limit your losses. Just keep in mind the next point.
3. Do not sell when the market swoons. With the volatility current being exhibited in the stock markets, you will have an opportunity to sell on big “up” market days that seem to follow days like today. Try and avoid selling on big down days where possible, because you are breaking the basic investment paradigm of buy low, sell high.
4. Buy overly beaten shares and use options to protect downside risk. Believe it or not, this could be a great time to buy some high quality, perfectly sound stocks that have been dragged down with the rest of the market. I am writing an article on some of these shortly, but suffice to say there are a number of great stocks still on offer at bargain basement prices. The key though is that with any purchase, you must buy yourself some protection using (put) optionsin case the market continues falling.
5. Liquidity and trading. Following on from the above points, a buy and hold strategy will probably be fine if your investment horizon is 5 to 10 years. In the short term though, to make money you need to trade the market. The currently volatility allows you to buy stocks or the underlying options during down days and then quickly sell them at higher prices a week or two later. The key is to have enough liquidity to take advantage of opportunities. Suffice to say this strategy is risky and should only taken if you had a lot of experience trading. But it can be quite profitable in an otherwise down market.