The Stock Market Has Crashed. Which Stocks Should I Buy?

Corrections in the stock market aren't unusual. Do your own due diligence before buying stocks.

Market Corrections Aren't Unusual

A correction or a crash in the stock market isn’t an unusual event, despite what one might think during such an event. According to Fidelity Investments,

Since 1920, the S&P 500 has, on average, experienced a 5% pullback 3 times a year, a 10% correction once a year, and a 20% decline every 7 years.

Of course, similar behavior can also be observed in India with the S&P BSE Sensex index in the past 20 years, starting from 1980 to 2020. According to this blog post by Funds India ( link | link),

In fact, a 10-20% temporary decline is as common as your birthday and you should expect this almost every year.

Market Correction Should Never Be the Only Reason to Buy Stocks

A market correction should never be the only reason for buying stocks, unless you’ve already done your due diligence on the stocks you’re looking to buy.

It might sound surprising but the price of a stock is one of the least important things about a stock. At any point in time, the price of a stock may, or may not, reflect the underlying business fundamentals of the company in question.

Let’s assume that you didn’t do any due diligence on the stocks you bought during an ongoing market correction after asking for stock recommendations. What would you do if the price of a stock you bought falls by more than 50%50\%? Would you sell it or hold it? What would be your reason for taking either of those actions?

Even if we assume that the stock recommendation comes from a person or an entity which apparently knows what they’re doing, you shouldn’t be willing to bet your hard earned money on borrowed conviction. They might find a better opportunity and sell the stock suggested earlier to buy another stock. Would they keep you updated every step of the way? They can also simply be wrong.

One has to realize that it’s much easier to buy a stock than it is to hold it or sell it. Although one doesn’t necessarily need to have conviction when buying a stock, holding a stock requires considerable research, devotion of time, and conviction, often in the face of extended downturns or a sideways market, even if one knows that the underlying business fundamentals are strong. The act of selling a stock is even harder and often the source of regrets among investors. People often have trouble letting go of a stock they’re mentally, and sometimes emotionally, invested in, even if the stock should be sold. Sometimes, people sell too soon and then regret it later.

A research paper ( link | link) from the University of Chicago and MIT Sloan School of Management suggests that,

while there is clear evidence of skill in buying, selling decisions underperform substantially — even relative to random selling strategies.

What Should You Do?

Assuming you’ve already done your due diligence on a stock and have enough conviction to hold it in the face of possible downturns, you may go ahead and buy the stock you want. However, if you haven’t done your own due diligence on a stock, it’s better to stay away from it. Asking for recommendations from others is a futile act because borrowed conviction will not help you in the time of crisis and the person who recommended the stock may not hold the stock in the near future or might be completely wrong about his choice.

However, if you still have the urge to buy something during a market correction, it might be relatively better to invest more in mutual funds you already hold.

Last updated