When Stock Markets Start Falling What’s the Best Investment Strategy?

Daniel Penzing
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Here are some of the things you can do when volatility hits Wall Street.

Not many investors like volatility. Volatile markets don’t give you many opportunities to grab stocks at attractive prices and they don’t provide many chances to make big gains.

However, despite what many investors think, volatility doesn’t always signal a bearish trend. It could also be a market that’s setting up for a big upswing.

Volatility can be a great opportunity to buy company stocks at bargain prices and sell them at a nice profit once the market stabilizes. It can also provide opportunities to make money in the short term by taking advantage of big swing moves, catching some of the big gainers, and taking profits at key support and resistance levels.

Although there’s no single strategy to trade volatile markets, here are some of the things you can do.

Check the Volatility Index

One of the best-known metrics for measuring volatility is the VIX, or the Chicago Board Options Exchange Volatility Index. It’s a benchmark that measures the market’s expectation of 30-day volatility by gauging the price of S&P 500 index call options.

So if you’re looking to gauge volatility in the market, check out the VIX. Its level can range from close to 0 to about 80.

The Dow Is Down! What's the Best Investment Strategy?

As the Dow Jones industrial average fell over 2000 points from its peak of 26,616 on January 26 – a days after President Donald Trump's inauguration – to 25,962 on February 3, 2018, investors should keep the following points in mind…

In the long term, the Dow is up by about 25% in value over the last five years, and it will probably continue rising, as history has shown that it is difficult to keep the growth rate of the U.S. economy to less than 2% per year over time.

As you can see in the chart below, the Dow is up by over 35% from the mid-2009 low. This was during the Financial Crisis when everyone was predicting that housing prices would never recover, employment would be low forever, and stocks would never go back up.

But the Economy did recover (see chart below). Since that time, the stocks have generally moved higher, and investors have made great gains, especially after the Trump tax cuts.

If you have a long-term (5-year and beyond) investment time horizon, you are likely to be able to celebrate your gains in the market. But if you are worried about short-term losses, then you should probably think about taking some profits off the table.

Buy When Everyone Else is Selling

If you've ever read the stock market technical analysis advice of one of the legendary traders, you may have seen them explain that they aren't buying or selling a particular stock; instead, they're entering or exiting a trading vehicle based on an underlying stock's price. I've always loved the simplicity of that statement. It's so true.

A trading vehicle is the route traders take to gain leverage in their trading strategy. There are many different trading vehicles, from an individual stock to a mutual fund to an ETF. They all have different strengths and weaknesses, but one of the key differences is the leverage you can get. A stock trader can gain upwards of 1:1 leverage. ETFs can give you upwards of 10:1 leverage! How crazy is that?

On the other side of the coin, when the risk appetite is high, when everyone is jumping on the bandwagon of higher and higher leverage, it's time to sit tight and wait for another opportunity. This is the time to buy the "fear."

When I say buy the fear, I'm not talking about buying the bottom of a stock market decline, but buying the fear. When stocks are getting killed, though volumes are skyrocketing at the same time, that means there are less buyers and more sellers. Eventually, the sellers will capitulate and the market will stabilize.

Sell and Limit Your Risks

Before going to tell you that studying the stock market is one of the best investments you can make in your life; let me tell you that it’s not and it won’t make you rich fast. (Well, some would say it’s an “investment” if you can find a good broker and pay low fees, but I wouldn’t call it “investing.”) However, it can be a great place to make a second stream of income or even a primary stream of income if you take advantage of the rewards it offers.

The graphic we are giving you here is a sample of a trade made in the stock market today. As you can see, it all happened within just a few minutes and the forex profit made is a nice addition to your monthly “accounts” statements.

You don’t have to tell us your age, as you make a profit today on your fifteenth stock market trade.

Is trading for newbies easy? Absolutely not! When you start out, it’s always hard to know when to buy or sell and it’s hard to determine market fluctuations.

Hold and Stick to Your Game Plan

Yes, you need to be prepared for a downswing in the market. But you don’t need to change your entire investment strategy to deal with it. You should hold your course and stick to your investment plan.

The first thing is to decide whether you’re going to stay in the market or move out of the market, even if that means selling your shares at a loss. It’s important to remember that selling at a loss is better than not selling at all. Once you have laid out that sale range, stick to it.

If your overall stock market strategy has a target date for when you’re going to sell the shares, move to that date now.

If you’re dealing with bond market, you need to decide whether they’re going to be affected by the stock-market turmoil and if you want to stay or move out of the market. Remember that the bond market moves or falls slower than the stock market, so we may not see the bond market move until the volatility in the stock market is over.