4 Smart Moves to Make in a Correcting Stock Market
Typically, this is the time of year known best for the “Santa Claus rally.” However, 2018 looks to be a year in which most investors will receive coal in their holiday stockings.
Following 2017, during which the stock market didn’t even undergo a 5% decline, the stock market has undergone two relatively jarring corrections in a 10-month span. A “correction” is a decline of at least 10% from a recent high. In late January and early February, it took less than two calendar weeks for the broad-based S&P 500 (SNPINDEX:^GSPC) to lose 10% of its value. Recently, it’s been more of the same, with the S&P 500 dipping into correction territory on more than one occasion since the beginning of October.
So what’s an investor to do? Here are four smart moves to consider that should get you through this (and really any) correction.
1. Target companies that pay a dividend
One of the safest things you can do during a correction is to purchase stocks that pay a regular quarterly, semiannual, or annual dividend.
The thing with dividend stocks is that they act like a beacon for long-term investors. A company that shares a percentage of its earnings with investors is often a business that’s time tested and foresees growth and profitability in the future.
Now, this doesn’t mean that all dividend stocks are worth purchasing during a correction. Let’s remember that yield is a function of payout and price, meaning a rapidly declining stock with a troubled business model could have a rising dividend yield. In short, you’ll have to do some digging to ensure that a company’s operations are still running on all cylinders.
Nevertheless, purchasing dividend stocks, using those payouts as a hedge against near-term market downside, and reinvesting those payouts into more shares of dividend-paying stock is a pretty simple way to shore up your portfolio for the next bull market.
Want a high-yield dividend stock to consider? Take a closer look at AT&T (NYSE:T), which is about as cheap as it’s been in a decade on a forward earnings basis. AT&T’s business model is primarily subscription based, meaning it’s less likely to lose customers to a contracting economy.
It also recently completed the acquisition of Time Warner, giving it access to the CNN, TBS, and TNT networks. Consider these to be the dangling carrots that AT&T plans to use to charge more for advertising as well as to lure consumers to its streaming video services. Currently yielding 6.6%, AT&T isn’t going to dazzle investors with top-line growth, but it’ll get the job done.
2. Seek out basic-need industries and sectors
Another smart idea is to seek out investments in basic-need industries and sectors. Basic-need companies offer products or services that aren’t fazed by an economic contraction or recession. For instance, pretty much everyone is going to buy toilet paper and toothpaste and need electricity in their homes. This makes companies that sell these products and services particularly attractive when stock market volatility strikes.
It’s worth noting that basic-need stocks also tend to pay a dividend, which reinforces the value of the previous point. Because basic-need goods and services have relatively predictable demand, forecasting operating cash flow and the ability to pay a dividend is easy for the publicly traded companies behind these products.
One consideration here is the largest publicly traded electric utility, NextEra Energy (NYSE:NEE). I didn’t purposely suggest NextEra be considered on sole account of its size. Rather, NextEra’s intrigue comes from the fact that no other utility generates more electricity from solar and wind than it does. Although these were costly initial investments, NextEra’s reliance on “greener” sources of energy should reduce its long-term costs and steadily improve its margins at a faster pace than its peers. Currently yielding 2.4%, NextEra Energy has set-it-and-forget-it appeal.
3. Review your holdings
The third move you’ll want to consider is reviewing your existing holdings. Honestly, you don’t need a market correction to do so, but they’re often a good reason to dig into your portfolio.
So what are you looking for? Essentially, you’re asking yourself whether your initial investment thesis is still true. If a company you purchased has undergone a material change in its long-term outlook, that might be a viable reason to sell into this correction. If, however, one or more of your holdings has simply vacillated lower with the market yet not undergone any material change to its long-term strategy, you’ll probably regret selling.
Take Amazon.com (NASDAQ:AMZN) as a good example. Shares of Amazon have cratered by as much as 27% since hitting an all-time high in the early part of September. Despite this, nothing is materially wrong with Amazon’s business — at least not to this investor. Sure, its share price may have overheated a bit, but the high-margin Amazon Web Services (AWS) delivered 46% sales growth in the third quarter from the prior-year period while providing $2.08 billion of Amazon’s $3.72 billion in operating income. As AWS becomes a larger percentage of company sales, Amazon’s margins should improve. No fire here, folks.
Then again, even companies in basic-need industries and sectors could face investment-thesis-altering events. Just ask the shareholders of PG&E Corp. (NYSE:PCG). As it’s one of California’s leading electrical utilities, sailing is usually smooth for PG&E. Recently, though, the wheels fell off the wagon. PG&E is facing what could be substantial liabilities tied to the Camp Fire if found responsible — and initial evidence would appear to indicate it is. Staring down a financial penalty that could far exceed what its liability insurance would cover, PG&E is contending with an investment-thesis-altering event that could rightly have investors running for the exit.
4. Invest with regularity
Last but not least, you should strongly consider investing on a regular basis, regardless of how well or poorly the stock market has performed.
Back in 2016, J.P. Morgan Asset Management released a report showing that if investors had held onto the S&P 500 from Jan. 3, 1995, through Dec. 31, 2014, without selling, they’d have generated a 555% aggregate return. Comparably, missing just 10 of the S&P 500’s best trading days over this period would have slashed aggregate returns to 191%. Miss just over 30 of the best trading days in a more than 5,000-day period spanning 20 years, and your returns would be negative. The point being that many of the market’s best days occur within two weeks of its worst days. Trying to time your buys and sells based on the market’s vacillations typically won’t work out well.
Rather, let time do the work for you. Since 1950, the S&P 500 has undergone 37 corrections of at least 10%. Not counting the current correction, each and every one of the previous 36 corrections was completely wiped out by a bull market rally — and often within a matter of weeks or months. Time is the variable that puts money into the pockets of long-term investors.