For those of us who had never been through a stock market crash, March 2020 was a pretty scary time. Even those who had experienced the Great Recession and the Dot Com bubble, the pandemic was a tough ride. The main reason for this is uncertainty, we just didn’t know what was going to happen.
The pandemic and its effects were unprecedented in the post Second World War world. Sure there had been market crashes, corrections and recessions but they were somewhat predictable, just standard economic cycles. The pandemic was something new, unpredictable and uncertain.
However, as with many world events and crisis there have been lessons to be learnt. Surprisingly, these lessons are not too dissimilar to the lessons learned after many other crashes, yet maybe more potent given the circumstances.
Always think worst case scenario
Think back to the beginning of 2020, you would never have thought huge parts of the population would be placed on furlough for months on end. I sure didn’t, I was too busy getting ridiculously drunk in Liverpool for my birthday.
However by the time March came around, it became very clear that the current situation had become very serious. A national lockdown was announced as with many other countries, the streets were empty and the price of petrol fell to 99p per litre.
Now thinking back I find myself thinking how lucky I am that I like in the UK and have a very good employer. I say this as for many the pandemic has been a complete disaster, and I realise how lucky I am. If it wasn’t for the furlough scheme things could have been a lot different.
For many the state became our emergency fund, I know it’s a scary thought, but that is exactly what happened. In normal times an emergency fund provided security and peace of mind, but now it had become vital. Therefore, by always thinking worst case scenario you need to have that buffer in place. When it comes to the stock market, you need to now think if you investments can take a shock that we saw in March 2020.
You can’t predict what will happen in the stock market
The stock market is not rational for the very simple reason that human nature is rarely rational. Additionally, the stock market is not the real economy and therefore it may not follow the underlying economy.
When it comes to a crisis people suddenly become sheep and follow what the market does, i.e., share prices fall by 40% people panic and sell, then other people see people are panicking and sell too. Equally, you will have people who try to time the bottom of a sell off just to have the market fall a further 20%.
Regardless of whether you are a dividend or a growth investor the best way to invest into the stock market is over time, not timing the market. Also known as cost averaging, this is where you continue to invest in stocks whether the market is up or down. Over time the market should provide you with a good average rate of return.
Additionally, especially if you are an average investor, consider the use of ETFs for diversification. By investing in an ETF you spread your risk over 100s of different stocks. Therefore, if one of the funds holdings falls massively, the overall effect will be negligible; but if the same stock was to fall in a portfolio of 20 individual stocks it would have a huge impact.
Don’t follow the hype!
The post-March 2020 stock market recovery has lead to a lot of stocks being hyped up. Some of these stocks such as Apple or Microsoft are good stable companies just being moved to very high valuations. Whereas you have also had the rise of SPACs, or Special Purpose Acquisition Companies. These are companies formed to raise capital through an initial public offering to then acquire an existing company, therefore making them publicly listed.
While SPACs are not a new thing, they have recently become very popular and subject to much hype. SPACs are also seen as a way a company to become listed on the stock market who would not be able to normally. Therefore, a lot of these companies have little to no revenue and should be approached with caution.
The saying, what goes up must come down can often be applied to the stock market. If you look at companies that were hyped up in the 90s, they then crashed by up to 80% by 2001. Some of those companies, like Cisco and Intel, their share prices have yet to reach the all time highs made in 2000.
The best thing you can do as an investor is to ignore what everyone else is saying, look at the graphs and company fundamentals and make a decision for yourself. Listening to other people, whether they are on YouTube or a finance news site, is no substitute to you doing your own research.
None of the content in this article should be considered financial advice, I am not a financial adviser and you should always do your own research prior to investing. These are my opinions only.