5 Keys to Riding Out a Correction

The doomsayers live for big down days in the market. So do those whose glasses are half-empty.

What's more, the uber-rich investors employ strategies far beyond our ken.  The Average Joe investor may not have the access to alternative investments that enable them to succeed during corrective phases or bear markets like the ultra-wealthy, but one can still persevere during this period. It just requires some changes in your investing approach.

Step 1: Reduce Your Risk

Many small stock growth investors may not be accustomed to using options in their long positions since the availability of options in small-cap and microcap stocks is slim to none.  If you wish to keep certain long positions or engage in new ones that you believe will withstand the current onslaught, you should consider selling short-term, slightly out-of-the-money calls and pocket the premium associated with the transaction.  In situations where you are not married to a stock, or already have meaningful built-in returns, sell a short-term in-the-money call. The premium will be higher and if it gets called away, so be it.  Rest assured it is probably an unlikely event anyway.

Step 2: Engage a New Approach

Most readers of The Stock Junction are pure, growth-seeking investors. When growth stocks are under assault, and the smallest stocks are also vulnerable, it requires a whole new approach to the market. I have recently preached about putting your money in small stocks uncorrelated to the market, and that remains a solid option.  Still, that is not enough. We are seeing a rotation into value stocks whose capital appreciation potential is based upon higher incomes generated by asset growth rather than traditional means.  That means you should buy stocks with strong balance sheets, high book values, etc. rather than revenue and income growth drivers.

Step 3: Remember That Cash is King

Do not fear sitting on a fair amount of cash. During a corrective phase there is no necessity to be fully invested. On the contrary, it is prudent to hold 10% to 30% of your total investment dollars in cash for the short term.

Step 4: Do Not Look at Valuations

In times like these, the conventional wisdom is to look at the present price/earnings multiple valuations on the stock market, sectors and individual stocks to find an undervalued situation. However, this strategy is a recipe for disaster. Since the market does not yet have a floor, and specific sectors like biotech are under attack, no one really knows what is undervalued or overvalued in the near term.  Once the dust settles, this metric should be employed, but not before.

Step 5: Do Not Panic                        

The most important thing to do is not panic. Ignore the talk of 30% drops and big crashes. If you fear losing sleep over it, go to a larger cash position. Regardless, you should take comfort that this too shall pass at some point, and a return to normalcy is in the offing.

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