The Dow had the largest point drop in history so far yesterday (Feb 5) but it was far from the largest percentage drop. Suddenly, the news are filled with doom and gloom predictions. It makes me wonder if artificial intelligence has taken over news postings depending on the current sentiment. Will we have a correction (a drop of at least 10%) or maybe even a bear market (a loss of more than 20%). I don’t claim to know and it may not really matter. The stock market has never been a smooth ride straight up. If you are still accumulating and investing every month, a drop is a good thing. You get to buy more shares for your money.
Once you are in the withdrawal stage, it is a different game. Selling shares in a down market is terrible for your long-term returns. That is why I advocate living of your portfolio income. Dividend stocks don’t cut their distributions just because the stock market corrects. They may cut distributions in a serious recession. The S&P 500 dividend cuts amounted to about 22% during the financial crisis in 2009. Obviously, a 22% drop in income is bad news but not nearly as bad as having to sell shares that dropped 50% in value. If you have some uncorrelated assets in your portfolio, the overall portfolio income drop is likely less. Lately, it seems that most assets move together. Stocks and bonds are both down. Interestingly, in my own portfolio, I noticed that my high-risk investment allocation has actually done better than my dividend index fund. My mortgage REITs did better than the more conservative equity REITs likely due to their portfolio being floating rate and the economy still humming along. However, nobody knows in advance. Even if you get to predict the top, can you predict when it’s time to get back in? Well, neither do I.
So what to do when the stock market drops? It is simple but not easy: just wait it out. You need to be prepared ahead of time since things can happen fast. Preparation includes:
If you are still in the accumulation phase, keep investing and enjoy the gains that will eventually follow.