What should Investors do in the Falling Market?
A falling market is described as a period of negative market returns in which stock prices fall 20% or more from their previous highs. Investors can use a variety of tactics when they believe the market is about to collapse or is already dropping; the optimal strategy relies on the investor’s risk tolerance, investment time horizon, and overall goals.
Let’s look at some strategies to adopt while a market is falling.
Selling your investments
One of the safest and most often used ways is selling all of your investments and holding cash or investing the earnings in far more stable financial instruments, such as short-term government bonds. By doing so, an investor can reduce their stock market exposure and mitigate the effects of the raging bear.
Selling everything and missing the rebound (often referred to as capitulation) could result in an investor missing out on the positive turn.
To profit from a declining market, short positions can be taken in a variety of ways, including short selling or buying speculative put options, both of which will increase in value as the market declines. It’s important to keep in mind that each of these quick techniques comes with its own set of risks and constraints.
Defensive approach
Investors who would like to keep their stock market positions often take a defensive position. Part of this strategy is to invest in big companies with strong balance sheets and a long operating history and track record. Large-cap companies are less affected by a general economic or stock market downturn, therefore their stock prices are less vulnerable to a significant drop.
Food staples (people still eat even when the economy is in a slump), utilities, and producers of other basic necessities like toiletries are among the so-called defensive stocks. Because they have strong financial positions, including a large cash position to cover continuing operating demands, these companies are more likely to withstand downturns.
Riskier companies, such as small growth businesses, on the other hand, can be avoided since they are less likely to have the financial stability required to withstand downturns.
Put Options
Buying protective put options is a popular defensive tactic. Puts are options contracts that give the holder the right but not the obligation to sell a security at a predetermined price once or before the contract expires.
Takeaway
The most important thing to remember is that a bear market may be exceedingly difficult for long-term investors because most stocks fall during a bear market, and most strategies can only reduce downside risk. It is impossible to completely eliminate it.
