The Australian stockmarket plummeted on Friday following on from a disastrous performance from US equity markets overnight. After the Dow Jones Industrial Average and Nasdaq indices tumbled 1.9% and 2.1% respectively, Australia's benchmark S&P/ASX 200 (Index: ^AXJO) (ASX: XJO) Index dropped a stunning 76.5 points or 1.4% and sparked fears of a market crash.
Indeed, a correction has been on the cards for a while now. Statistics have shown that a market correction, which is a 10% drop (or rise), occurs once every 11 months. As Bruce Jackson, General Manager of Motley Fool Australia highlighted last week, US markets haven't experienced one of these corrections since 2011, meaning we're well and truly overdue.
In these circumstances, it is easy for investors to make what is the worst investing mistake possible. That is, selling shares out of fear or anticipation.
Nobody ever got rich from selling in a panic
Too many investors smell uncertainty and run for the exits before returning to the market a short time later with their tail between their legs. Here are three reasons why this is such a bad mistake:
- The market could just as likely recover tomorrow as it could fall further. Don't sell out and miss out on those potential gains.
- If you've made a capital gain on your shares, selling activates a tax liability.
- It also increases your brokerage costs. If you choose to buy back into your investment at a later date, you will have paid for brokerage twice.
Before you make that mistake, remember this:
These corrections (or crashes, in more severe cases) are inevitable. In fact, they are just as much a part of the market's cycle as a rise or a boom. The only thing that remains uncertain at any point in time is when the correction will occur, and to what magnitude.
While the market could do anything in the near term, it will rise over the long term.
Here's what you can do to protect yourself
History has proven that buying shares in quality companies and holding them through the market's ups and downs is the best way to grow your wealth over the long term. To ensure your portfolio is fit to last through those tough times, there are a number of precautions you can take…
- Cash. Make sure you've got a pool of cash saved. If the market drops, you want to have some assets not exposed to the fall.
- Bargains. Further on that point, you also want to have cash to buy shares when they are trading at bargain prices!
- Blue-chips. They might not provide the same level of excitement as growth stocks, but they're built to last. Companies like Telstra Corporation Ltd (ASX: TLS) and BHP Billiton Limited (ASX: BHP) present as reasonable buys today, and each offer a juicy dividend too.
- Sit on your hands. The most important thing to remember is to never act out of panic or fear. You need to trust your initial judgement about the companies you've bought and sit on your hands and ride out the rough patch.
Your chance to start building a $1 MILLION portfolio
There's no denying that market wobbles can be downright scary at times – watching your portfolio plunge in value is never a nice experience. But these market drops can also be the greatest time to start building your personal fortune by buying stocks at their cheapest price, and then letting them compound in value over the long run.
